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25
October 2017
 |
Graph (The Total Investment & Insurance
Solutions)
The
Union Cabinet had approved a recapitalisation plan worth Rs2.11 lakh crore for
state-run banks to boost flagging economic growth and increase bank credit
flow. This measure is likely bearish for short term rates, and makes Reserve
Bank of India (RBI) to hike rates, says a research report.
In
the report, Goldman Sachs, says, "All else equal, the measures announced
today are likely bearish for short-term rates, as they make the RBI more likely
to hike rates sooner than market expectations, should growth momentum improve
substantially, reducing economy-wide slack, and core inflation inch higher. We
currently forecast that the RBI will hike rates three times by the end of 2018,
an outcome that is not fully priced in by the market."
Goldman
Sachs, however feels at present the long term impact on rates due to the
recapitalisation move is more uncertain. It says, "Factors that may put
upward pressure on longer dated rates include, improvement in growth
expectations; uncertainty around the fiscal position and upside risks to the
fiscal deficit; and increased open market sales of government bonds by the RBI
to neutralize liquidity injections, should they have to lean against
incremental currency appreciation pressures." The Total Investment & Insurance Solutions
On
the other hand, the report says, "It is not clear that the Rs1.35 lakh crore
in bank recap bonds will directly add to the supply of government paper to the
market, as when the government issued recapitalisation bonds previously, banks
were mandated to subscribe to the entire issue; longer-term fiscal fundamentals
could actually improve and banking sector demand for government paper does not
necessarily decrease given the significant potential increase in bank balance
sheet capacity as a result of the bank recap, should leverage ratios stay
constant." The Total Investment & Insurance
Solutions
"On
balance, therefore, the impact on longer-dated rates is likely to be more
uncertain, although in association with other factors such as the expected
normalization of the term-premium in the G3 economies over the next year, we
remain moderately bearish on longer-dated rates," Goldman Sachs added.
Given
the sheer magnitude of this recap package and the significant implied easing in
credit conditions, as credit and investment growth rebound, Goldman Sachs says
it would expect a re-rating of growth expectations in India in the coming
quarters. The Total Investment & Insurance
Solutions
The
move is likely to be bullish for equities and the Indian rupee in the medium
term, the report says, adding, in the short term, a potential headwind to
Indian rupee strength will be uncertainty around the fiscal position and the
potential upside risks to the fiscal deficit when including other measures
announced alongside the banking sector recap package.
"We
would emphasize though that while the near-term risks are clearly skewed
towards deterioration in the fiscal position, medium-term fiscal fundamentals
could actually improve, should private sector growth and private corporate
investment spending rebound meaningfully following the easing of credit
conditions. The current account deficit would likely increase but from a low
level. Overall, we think the bank recap package is likely bullish for the INR
over the next 12 months," Goldman Sachs concluded.The Total Investment & Insurance Solutions
