RBI and Capital Inflows

From Bloomberg this morning:


India's central bank is yet to take a clear view on record capital flows, after the rupee gained the most in 33 years, Deputy Governor Rakesh Mohan said today.

India's best economic performance in 60 years led overseas investors to buy a record $18.6 billion in stocks and bonds this year. That's helped the rupee gain 12.3 percent since January and pushed the benchmark stock index above 20,000 points for the first time, leading to the imposition of some capital controls.

``We do intervene in the market, but we would like the exchange rate to be market determined,'' Mohan said in New Delhi.

India's finance ministry in August imposed curbs on companies seeking to borrow from overseas and the Securities & Exchange Board of India on Oct. 25 tightened rules on overseas investment in shares through so-called participatory notes.

The rupee surged as high as 39.185 against the dollar on Nov. 7, the highest intraday level since Feb. 20, 1998. It has retreated since and traded at 39.41 as of 10:45 a.m. in Mumbai, according to data compiled by Bloomberg.

India's central bank stepped up dollar purchases to prevent the rupee from gaining further and hurting exporters after it recorded the biggest annual gain in more than three decades.

Mohan said that while the central bank was successful in cooling down some sectors of the economy, it will use all instruments needed for its monetary policy objectives. The objectives of the policy are guided by financial and price stability, besides sustained growth.

`Unorthodox Approach'

``We have followed an unorthodox approach in the conduct of the monetary policy,'' Mohan said. ``We have succeeded in cooling down certain parts of the market. We will do whatever is necessary both upwards and downwards when the market situation demands.''

The Reserve Bank on Oct. 30 raised the ratio of deposits that lenders must put aside for the fourth time this year to curb inflation. The move helped inflation hold near a five-year low.

Wholesale prices rose 3.11 percent in the week ended Nov. 3 from a year earlier, compared with a 2.97 percent gain in the previous week, the government said last week.

India's exposure to the U.S. mortgage market has been small and the economy has so far been insulated from the subprime- mortgage crisis, Mohan said.

Losses from subprime mortgage foreclosures along with slower growth and falling house prices could reach as much as $300 billion, according to the Organization for Economic Cooperation and Development.

``Recent economic news points towards a more protracted economic adjustment,'' the OECD said in a report released in Paris. ``A recession in the U.S. is now seen as more likely than before by some observers.''

Capital Inflows into India

Ok, this is just a brief piece to say that after a long absence I am once more getting interested in India (or better put finding the time to think more about India, since I have always been and always will be interested in India). I am starting to compile some information. This has mainly been prompted by a recent posting on the Morgan Stanley GEF from Chetan Ahya.

In particular this:

Over the seven weeks ending November 2, 2007, India’s foreign exchange reserves have increased by US$34 billion (annualized inflow of US$250 billion). Indeed, the trailing 12-month sum of FX reserves has increased to US$100 billion. This compares with the average annual increase of US$38 billion over three years prior to these seven weeks. With the current account still in deficit, the increase in reserves is being driven largely by a spike in capital inflows and to a very small extent because of conversion of non-dollar reserves into dollars. During the last seven weeks in which FX reserves have shot up, we believe that capital inflows would have been US$35 billion. Out of this, not more than 10% has been on account of FDI inflows. Non-FDI inflows including portfolio equity and external debt inflows form a major part of these inflows.

and this:

While the inflows are pouring in at the annualized run rate of US$250 billion, in our view, currently the country can absorb only about US$40-50 billion of capital inflows annually without causing any concern on attended risks of overheating.

Basically this has all now gone well beyond the old "sizzling India" debate, and there are aspects of what is happening in India which remind me of what I have been seeing in the Baltics (although there are obviously huge differences), especially the danger of the RBI effectively losing control over monetary policy, and how capital inflows and a deteriorating current account situation can provoke inflation and make it hard to achieve a trade balance. This can, of course, completely distort India's economic development, and needs a lot of serious thought.

I am now about to start tracking India again. A first move in this direction is to log this brief piece in Bloomberg this morning:

India's rupee rose for a second day on speculation economic growth that is the fastest among major economies after China will keep drawing overseas investment.

The currency traded near the strongest in almost a decade after Finance Minister Palaniappan Chidambaram said late yesterday that the expansion will be ``about'' 9 percent this year, near the quickest since 1989 in the 12 months through March 2007. Purchases of Indian shares by funds based abroad more than doubled this year from 2006.

``The short-term outlook is quite positive for the rupee as the stock market sentiment remains bullish,'' said V. Rajagopal, chief currency trader at Kotak Mahindra Bank Ltd. in Mumbai. ``We could see further rupee gains in the coming weeks.''

The rupee rose to 39.2950 per dollar as of 12:43 p.m. in Mumbai, according to data compiled by Bloomberg. Its 12.7 percent advance this year is the second-best performance by an Asian currency after the Philippine peso.

The currency may advance to 39.1 in the coming weeks, Rajagopal said. The median forecast of 24 economists in a Bloomberg News survey predicts the rupee will reach 39.21 by year-end and 39 by the end of March 2008.

The Bombay Stock Exchange's Sensitive Index has advanced 4.8 percent this week, after declining 5.4 percent last week. The index is headed for a sixth annual gain as stock purchases by global funds reached a record $16.8 billion this year, compared with $8 billion in 2006.

Asia's third-largest economy has grown an average 8.6 percent since 2004, the fastest pace since independence in 1947.

Property Correction Coming?

This article in Bloomberg this morning may be to the point:

Shares of Unitech Ltd., India's largest real-estate developer by market value, soared 26,869 percent during the past three years. Anant Raj Industries Ltd., a competitor, leapt 39,548 percent.

Both have dropped at least 5 percent from peaks in November and December and further losses may lie ahead. The highest interest rates in four years, tighter lending requirements and seven share sales this year are hurting real-estate stocks. Those companies had rallied as a property boom pushed apartment prices in southern Mumbai to near-Manhattan levels.

Indian developers are among the BSE index's most expensive members on a price-to-earnings basis. Unitech trades at 31 times expected earnings, while Anant Raj, a New Delhi-based developer in which billionaire George Soros bought a stake last year, is at 67 times. That compares with 21 times for the BSE-500 and 19 times for the eight stocks in Bloomberg's Asia-Pacific Home Builders Index.

Average home prices tripled over the past three years, buoyed by the world's second-quickest growth rate among major economies after China. Prices rose 50 percent to 100 percent over the past year in cities such as Delhi, Bangalore and Hyderabad, property consultant CB Richard Ellis said in a report for the quarter ended December.

Still, demand for homes and offices mean any drop in property stocks will probably be a correction and not a rout.

``While a decline in housing affordability and potential oversupply could weaken prices in the near term, the long term outlook remains attractive on strong demand,'' analyst Mahesh Nandurkar at CLSA Asia Pacific Markets wrote in a Jan. 25 note.

All of this seems realistic enough. What may well happen is a correction in the property market, but we need to think beyond this. Any such correction will take the impetus out of the middle class consumer growth sector, and cool things down a bit on the one hand, but this may merely mean that the growth impetus will then move onto the investment leg. This is something India badly needs to equilibrate the growth process. But this will mean an expansion in infrastructure and an increase in export oriented industries.

So it will solve some of India's issues, since it will take some of the pressure of the agricultural sector by providing work for some of the youngsters, but it will only add to some of the global imbalances issues as India begins to export more to pay for the technology it is now going to import. Good news for Germany and Japan, bad news for the US, the UK, France etc etc.

FDI Inflows and Outflows

This article from the Bangladesh Financial Express raises the rather interesting question as to why India is now investing abroad more in the form of FDI that it is receiving:

Despite persistent poverty and income disparities, 2006 marks the point when, 60 years after independence from colonial rule, Indians were investing more abroad than the country was receiving as foreign direct investment (FDI).

With India's foreign-currency reserves now exceeding US$160 billion and with a pro-liberalisation federal government relaxing norms for Indian firms acquiring hard currency for investments abroad, the amount of money invested by local corporate bodies outside India is expected to exceed $8 billion during the current calendar year. As of April-October, FDI flows touched $6.1 billion, compared with $2.6 billion during the first eight months of the previous fiscal year.

Now I think there is often an underlying confusion here, since Direct foreign investment is only one of the forms of capital inflow into India, since, as explained in this post, there is also institutional foreign investment (FII), and funds from non resident Indians (NRIs) to think about.The latter figure was $21 billion in 2005, that is over 3 times the level of FDI for 2006 alone (and lord knows what the level of NRI related inflows in 2006 are). On top of this domestic saving in India has been rising steadily.

So, as I keep pointing out, FDI is strategically, rather than quantitatively important, and exporting investment to make strategic acquisitions is also important.As Manoj Pant points out:

60% of world trade is intra-firm trade, and one way Indian companies are ensuring that their exports grow is to acquire firms abroad. "Through mergers and acquisitions, exporters ensure access to distribution channels as well as the latest technologies," he said, adding that this explains why Indian companies in industries such as steel, automotive components, pharmaceuticals and information technology (IT) are expanding abroad.