The Policy Rate Mechanism as conceived by Central Bank

The Policy Rate Mechanism as conceived by Central Bank

Not unusual for a monetarist in the world who sit down to look periodically at the Policy Rate of their Banks. To be precisely the monetary policy is assumed statement about the quantum of money supply at the given interest Rate. The Interest Rate is here a short term rate at which Banks and Financial institutions are engaged in borrowing and lending for short time.  Such rates are decided based on an indicative statement of Central Bank as well as following the demand and supply of Money in the monetary system. And thus a mechanism evolve out of connect between the Policy statement and the Short term rate. While Central Banker being the last Lenders resort and Bankers Bank, resorts to maintain its announced rate for all lending and borrowing purpose, the Market choose to adopt some admissible variation depending upon the liquidity.

The mechanism of Rate transmission is further impacted out of prevailing Currency and Bond Market condition within the financial system. It is now established and measurable to find out the interrelation between the Bond market and currency market impacting the Liquidity. Infect in an unrestricted market the impact has been enormous.  So we can safely assume the rate transmission have other players contributing to the rate mechanism. To add to the uncertainty is the non parallel transmission of Rate on the Yield Curve.

This completes the short term rate as practiced and bench-marked in the money market gradually evolving into Long term rate. The process of this policy transmission is multi lateral and multi dimensional. Given the array of loans following Time, issuers, tenor and rating obligation, the Bond market adjust through a possible array of lending Rate also.

Needless to say the rate transmission is so complicated market oriented process, that books of theory are distant in absolute measurement of the fact. The nearest to arrive to the explanation could be Monte Carlo Simulation as employed for discovering future Interest rate. The rate architecture further enhances its unpredictability given the reason that rate are dynamic function of Time. The Variables of Macro changes with time leading to evolution of dynamic Rate Transmission.

Indian Bond Market - An Overview

Indian Bond Market - An Overview .

Indian Bond Market unlike its peer Equity Market has been characteristically predictable and measurable.  It is especially in context of Bond investor and Mutual Fund Investor, Who found great value while investing in Bond Portfolio with measured risk only.

While changing macro variable have thrown enough challenges for ordinary investor, the professional Fund Manager from Fund houses and Security houses have summarily prejudged and benefited from the rally.

Besides a sequential understanding of Macro Obstacle, it is also imperative for   investor to understand the impact of major policy impact - Monetary and Fiscal on the Bond Market.

Much have been written on style and functioning of Monetary managers specially when multiple and non linear macro have led to sudden and unpredictable change in Policy direction.  Mr Y V Reddy in 2008 and Mr Raghuram Rajan 2014 is possible great case study to engage with.

But still the silver line rest with our ability to measure the Bond Market unlike Equity. While Equity is seemingly immeasurable, Bond is contrast opposite.

Investors have great return in all these previous year at A/B/C/D. The moot point whether D still holds value for investor or the rally is over. 

Monetary Policy Committee - Pre and Post

Monetary Policy committee – Pre and Post

Monetary Policy committee is a new chapter in the illustrious history of RBI functionality. The government has recently appointed a six member committee to assist and take a balanced decision on monetary policy.  Before we submerge ourselves into the detailed reasons behind this move, let us first peep into the relationship between the RBI and the Government. This relationship is basically a union of monetary and Fiscal mastery. Post 70`s worldwide, the duo have worked in tandem but have often been contradictory to each other’s needs. For example, in the case of India, it was post 1990 that fiscal liberalization started inventing measures to improve various economic indicators through effective legislative and administrative actions. The supplement to drive this growth was an ever expanding need of capital. And since then the worded policy and executive action of RBI have become a subject of public scrutiny and legislative supplement.

Worldwide, this mutual relationship has survived with mutual coordination; especially due to the symbiotic nature of economic needs. One of the foremost examples was be the FED decision to continue expanding credit and money supply by lowering rates in response to Ronald Reagan ,the then US President’s call for housing for all Americans. Another equally important development was the emergence of the Euro which is a monetary functionality where different fiscal units despite being sovereign entities decided to forge unity. There are numerous success stories despite hidden fault line and omission.

Coming back to the Indian context, barring a few occasional short lived impasse and verbal insinuations, the RBI and the Government have worked in tandem. The first litmus test happened in the era of ex RBI Governor Mr. Subbarao, who’s passing remark at the time of his retirement speech “I was left alone in my fight to tame inflation…” bemused everybody and explained the nadir of the relation. Similarly discussed insinuations were publicly examined in Mr. Rajan’s period as well. 

Why this? The objectives of both monetary and Fiscal policy are not divergent. Both want high growth, low Inflation, adequate liquidity, low interest rate, stable exchange rate and good employment numbers. But the cycle and time lag is what makes these assessments different bringing in lots of subjectivity into the action.

A carefully drafted RBI policy narrates hawkish underline with liberal action whereas in opposite a dovish worded assertion have been squeezing policy numbers. The impact appears to be contradictory for the businesses and markets.

There has been long demand in India to make the Monetary Policy framing body more democratic with denial of RBI Governor the power of veto to the entire consultancy process. So far all the Governors enjoyed this institution endowed superiority and went against popular market, business or fiscal preferences. Many a developed countries have gingerly diluted this either by making it more democratic or transparent. We finally have allowed the ice to melt and now we have six member bodies in monetary policy committee to spell out the monetary policy actions of RBI.

The credit must be spelled in favor of both the government and ex-RBI Governor Mr. Rajan, who together agreed and inked the details without any public noise and petulance. Here the supplementary sanctimonious action of Government by appointing three Academicians instead of Business lobbies is exemplary. Trust the new committee in its judgment will strengthen the union of Monetary and Fiscal policies and will herald a responsive era to business needs.       

Bottom of Form

2015- Movement of Capital- India and rest of the World .

2015- Movement of Capital- India and rest of the World .

The strength of a financial system is largely calibrated on its ability to create capital. If we analyze the currency mechanism worldwide, event those shaped world financial history were the migration of currency system from Gold standard to Gold pegged standard to floating regime. And today amidst this floating regime, there is equal opportunity for every currency to participate evolve, strengthen, weaken its macro, casting a bearing on its financial system.

The spell of Leveraged economy and ever expending world economy is a norm, which is not ridiculed but intellectually justified for its financial preponderance. Every country is participating and so we are. To add to this mechanism, we are actually a capital deficit nation in both our domestic and foreign account currency, warranting our total subjugation to this model of financing an economy.

In  the backdrop of these two realities, our dependence on FII & FDI is immense. Infect we have graduated a long way from 1992 to 2016 both in quantum and quality of these foreign inflow. There has been a gradual inflow of foreign currency denominated capital investment in Indian capital Market bringing a larger respite to the deficit discomfort. The sources of these inbound capitals are generally capital surplus nation. But of let there has been emerging tendency from tax havens and smaller nation encouraging and funneling dubious laundered money into the system. Since this part of subject is too complicated and offensive, we will leave it to some other days for discussion.

Today, we are largely able to mitigate our three challenges currency exchange rate, CAD (Current account deficit) and domestic requirement of capital through primarily FII and FDI inflow. And hence the importance of we as a nation able to attract quality inflow are noticed everywhere. No doubt there are other countries in the world who are equally competing with us in their pursuit of attracting foreign inflow. The challenges are oozing from competing macro event and consequent macro variables.  Since the macro events are random and varied few leaves skewed impact than the others in justifying the rational of such currency migration.

We as a nation certainly cause heartburn among other nation for the domestic demand we create.  Perhaps Malthus as an economist might find it unpalatable today, where in a rise in a population could be such a guiding factor of economic propriety. He was the one who laid the contrarian foundation and certainly sizable numbers of intellectual thinking has supported his claim.

The unflinching Demand has largely mitigated our other more weakened macro variables. We certainly do not inspire confidence on account of our Inflation number, Nominal Interest Rate, Domestic wealth Inequality, exchange rate and hydro carbon energy insufficiency.

The capital market and currency inflow is biggest leveler. It finds its level and draw stoic inspiration when it comes to distributing capital asset. Though we are a formidable recipient of capital benediction, we are not the largest.  A recent date of 2015 capital inflow arranged in pictorial form illustrates the point I am trying to reinforce.

We have miles to go before we set the dice rolling.  And reversing the trend would be the day of redemption for the illuminating past of the nation.

 

How Hellenic Greece is now reduced to Tiny Greece !!!

How Hellenic Greece is now reduced to Tiny Greece !!!

The Breaking news through a hysterical sounding anchor on the likely debt default by Greece dumbfounded me. The ranting voice of commentator led me to believe perhaps even bigger worry than US 2008 sub prime is waiting to be delivered before the world and investor community.   

Sub prime crisis of 2008 was great disappointment that led to temporary evaporation of huge wealth across the globe including mine a small investor; however Business and capital market returned to track in just few years. It was a gift of wisdom, which I carried through with Systematic investment leading to a more and higher valuation in next few years. What now, despite my pleasant rescue from 2008 crisis, I was shaken and worriedly took shelter in my contemplative best. 

The Greece decline was a gradual and known to world community. It was one among few disastrous and indisciplined economy from PIIGS nation (Portugal, Ireland, Italy, Greece and Spain) who borrowed heavily and disproportionately but spent them recklessly on wasteful priority, instead of transforming those borrowings in a meaningful productive capital asset. Such expenditure is usually termed as revenue expenditure. The profligate financial mismanagement converted the outstanding borrowings into huge mountain of debts. The interest liability on this accumulated debt is today higher than the revenue that these country and Greece specially can generate within the country.  The lender to Greece is World bank, IMF, ECB and countries like Germany. The Greece refusal to service their sovereign debt shall certainly be a colossal loss to their International commitment and financial propriety.

However given the scale and Business isolation Greece had with India and with rest of the world, it is far less worrying. Our material engagement and Business joints are limited and few. Even financial engagement is too modest to be mentioned. Greece was never a nerve point of capital movement for the rest of the world ever. I was sensing more of a ripple effect and a temporary effect on us. And the relieving fact, the surface ripple in ocean never turns to Tsunami.

But the appalling fact, the Great country of Alexander has been certainly reduced to a Tiny Greece.         

Bre-Exit and GST

Bre-Exit and GST

A contemporary event in Business has now immediate and direct bearing on State policy, which is popularly also known as fiscal state of affair. Here both domestic and International event finds mention in our scope of analysis.

We will analyze two event, one each from International and domestic arena which have been significantly discussed in Business world recently. The international event refers to the just concluded referendum by British citizen endorsing the decision to withdraw from European Union. The outcome for Britain and its economy is long event to unfold, but hype around its impact on Indian Business has largely dissipated. Victorian British could be the largest stake holder of Business in India in pre Independence days, but now it is diversified. Out export/ Import quantum, Invisible transfer, remittance movement, rent, dividend and royalty collection are significantly low to be remotely called alarming given any impending stress. Further the investment in Pond and by Pond between the two economies have been on measured side. British stands in our hierarchy  much below than our other preferred destinations like USA, Japan, Germany, Mauritius and Hong Kong. Few individual companies with a concentration of Business portfolio in Britain could agree to the challenging ripples for few months. But Britain certainly would not jeopardize its business interest by blocking or disenfranchising the continuing businesses. The hype surrounding the horror and belligerence of this event has certainly evaporated for commerce.

The other event which is domestic has lingered for longer than it deserved. The Political squabbling over GST in India is unfortunate and pejorative. Good sense and Good Business will let it rewrite someday soon. Why GST? India such a large nation has both political federal structure and Business federal structure. We are one currency, one monetary but multiple business zones. There are invisible tax boundaries which restrict the uniformity in laws and Business legislation across India.  GST should cut these overlapping ambiguities. Guiding State for uniformity and predictability in taxation, standard distribution of taxation across the federal units and comfort of unambiguous enforcement bodies are few outright consequences. One should infer that taxes on Business will come down. It could be mix of two. There are going to be downward movement on few items of Business tax but there will be upward as well. But a uniform cap will be more relevant word to watch.

Wait to watch how we govern ourselves on this and how this does gets factored into our Business reality.

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