The Indian stock market has corrected more than 13% since hitting a high in early September. This comes as their currency hits the lowest levels on record in the wake of the recent central bank meeting where the Reserve Bank of India left rates unchanged. While the moves in the stock market and currency markets are somewhat uncorrelated, investors are concerned that rapid growth and rising inflation will erode economic growth eventually.
The Rupee Continues to Trade Under Pressure
The Indian Rupee is trading under pressure hovering near the 74-per US dollar. This comes as US interest rates continue to rise and Indian rates falter. The Reserve Bank of India delivered a dovish surprise to market participants by keeping rates unchanged. Nearly 90% of the analysts expected the Reserve Bank of India to increase interest rates by 25-basis points. Rising growth and increasing inflation were the impetus for the expectations.
Inflation is on the Rise
There have been several important economic events in 2018. The August Consumer Price Index increased by 3.7% year over year which is still in the bottom portion of the range created as a target by the RBI. The range is floored at 2% and the cap target by the RBI is 6%. However, the slide in the value of the Indian Rupee convince many analysts that the RBI needed to increase rates to slow down the decline in the currency.
Growth Continues to Surge
India has had no problem with growth in 2018. GDP in the Q2 increased by 8.2%, compared to expectations that it would rise by 7.9%. This compares to a 7.7% increase in GDP in the Q1 of 2018. The growth in India’s economy further increases its lead over China which only grew by 6.6% in the same quarter.
The combination of stronger growth accelerating inflation led most analysts to believe that the RBI needed to increase interest rates, not only to put a floor under the currency but to also halt the accelerating of inflation that could follow rising growth expectations.
India reported that Industrial Production increased by 7% in July versus a 7.1% increase in July. The consumer sector of Industrial Production rose a robust 14.4% in July which compares to a 2.4% decline in the same month in 2017. Capital goods industrial production grew by 3% versus a 1.1% decline in 2017. The Q2 Industrial production in India increased by 5.4% compared to a 1.7% increase in the same quarter of 2017.
Why Did the RBI Keep Rates Unchanged?
There were several reasons why the RBI kept interest rates unchanged. One of these is that the Federal Reserve is raising interest rates which is buoying interest rates around the globe. The RSI is trying in some way to counter the increase in US interest rates with stable Indian interest rates. The issue is that the yield differential is moving in favor of the US which is weighing on the Indian Rupee. If the Fed continues to raise rate and the RBI keeps rates unchanged the Rupee will continue to face downward pressure against the greenback.