India's central bank next meets to review monetary policy on July 29. Last month the bank raised its benchmark interest rate twice to a six-year high of 8.5 percent and lifted its cash reserve ratio to 8.75 percent, in an attempt to slow the rate of increase in the money supply.
In a sign that the tightening may in fact be working liquidity seems to have been under pressure all week in the Indian banking system as banks had to make additional deposits with the Reserve Bank of India (RBI) to meet stricter cash reserve requirements from Saturday. Some Indian comentaters were jokingly saying that money seemed to have disappeared down black holes in the inter-bank market. From a position of surplus funds last week, several banks have run out of headroom this weel to borrow from the Reserve Bank of India (RBI) after collectively raising Rs 30,000 crore from the central bank.
As a result, interest rates for overnight money have breached the higher end of borrowing and lending rates targeted by the RBI and are running at over 9 per cent. Bankers attribute the cash shortage to three factors. One, banks have been asked to maintain higher cash balances with RBI. Second, the central bank has been selling dollars which results in a dip in rupee funds. And third, the government is sitting on funds worth over Rs 16,613 crore raised by way of taxes.
Industrial Output
India's industrial production grew at its slowest pace in more than six years in May as spiraling prices and tightening credit prompted consumers to cut back on purchases of cars, fridges and other manufactured goods. Production at factories, utilities and mines was up 3.8 percent from a year earlier after gaining a revised 6.2 percent in April, accodring to the statistics office in New Delhi today. Manufacturing, which accounts for about 80 percent of India's industrial production, was up 3.9 percent in May. Electricity output rose 2 percent, mining grew 5.5 percent. Consumer-goods production increased 7.2 percent.
Credit Downgrade Looming?
India's credit rating may be cut to ``speculative grade'' if faster inflation and higher government spending ahead of next year's election lead to further deterioration in the budget deficit, Standard & Poor's said today.
India's long-term local currency debt is rated BBB- by S&P, the lowest investment grade. A one-notch drop in its ranking would place India on par with Indonesia, El Salvador and Guatemala. According to the S&P statement:
``Political compulsions may make it difficult for the government to take timely measures to staunch fiscal or monetary slippages...Failure to respond adequately to negative developments could point to a sustained deterioration in macroeconomic stability and increase the probability that the government's ratings could be lowered to speculative grade.''
This threat of a downgrade comes just 18 months after India was raised to the investment category by S&P for the first time since 2002. A lower rating may deter foreign investors and make it more expensive for Indian companies to raise money, inevitably slowing economic growth.
Foreign Exchange Reserves Fall
India's foreign exchange reserves fell to $308.397 billion as on July 4, from $311.790 billion a week earlier, the central bank said in its weekly statistical supplement today. Reserves rose to a record $316.171 billion in late May and the decline since then is as much due to dollar sales by the central bank in the currency market (to prop up the rupee) and supply foreign exchange to oil companies to meet their import payments than ahything else. Foreign currency assets, expressed in dollar terms, included the effect of appreciation or depreciation of other currencies held in its reserves such as the euro, pound sterling and yen, and thus the value of the reserves is also a reflection of movements in the various currencies.
The Rupee
The rupee had its best week in more than three months this week on speculation Japan's third- biggest drugmaker brought in funds to pay for the acquisition of a local pharmaceuticals company. The rupee climbed for a fourth day following the decision by Daiichi Sankyo Co. to convert part of the $4.6 billion it agreed to pay last month for a controlling stake in Ranbaxy Laboratories Ltd into rupees. The rupee also gained on speculation exporters bought the currency following its drop to a 15-month low last week, betting further declines will be limited.
The rupee rose 0.7 percent to 42.8725 a dollar as of the 5 p.m. close in Mumbai. That's the biggest advance since the week ended March 28. The rupee has now rebounded 1 percent from a 15-month low of 43.475 touched on July 1.
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