Someone killed the rally in London’s markets on Monday, and the Reserve Bank of India is a suspect – but FT Alphaville fears a miscarriage of justice.
(Shiva is the Hindu god of destruction and benefaction, of course.)
India’s central bank raised its repo rate and reverse repo rate by 25 bps each on Friday, in order to ‘anchor inflationary expectations and contain inflation going forward’ – or so the bank said in its official statement.
So far, so tackling Asian overheating, so boring. Right?
Wrong.
Monday’s Asia markets took fright at what they seem to have perceived as a sign of an incipient slowdown in the global revival, fearing India’s move will start off a wave of monetary tightening. London promptly followed Asia, with the FTSE All-World Index slumping by 0.5 per cent by 11am in the City.
But it’s not quite so straightforward as that, as the rally’s post-mortem showed.
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From India…
Analysts were a bit shocked at the timing, if not the direction or magnitude, of the RBI’s decision. Expectations had been for a rate increase to be announced at a credit policy meeting in April. But the rate rise itself had been anticipated for a while, and generally seen as the right thing to do.
As Goldman argued in their Asia Policy note after the RBI’s move:
We have argued for a more hawkish stance by the central bank for a while, and think the rate hike is the right move. We continue to worry about rising inflationary pressures in the economy: headline WPI came in at 9.9 percent in February, CPI (industrial workers) at 16.2 percent, and core inflation is rising…
With this rate hike and the accompanying hawkish statement, the market will likely begin to price in more rate hikes by the RBI than it has done so far. The statement recognizes the need for the RBI to stay ahead of expectations and the long transmission lags in policy. It also recognizes that low policy rates can impair inflationary expectations.
Meanwhile, other analysts pressed India to consider policies beyond the simple adjustment of bank rates, such as currency appreciation. Which is the point RBC Capital Markets’ team made:
India’s solid recovery and higher policy rates should encourage further inflows, but we believe that more substantial appreciation of INR will require firmer evidence of the government’s resolve to fix the public finances. While announcing his budget last month, Finance Minister Mukherjee promised within the next six months a detailed plan for how the government will meet its longer-term fiscal targets, so this may be the key to the outlook for India’s sovereign debt rating and INR performance.
In summary, analysts thought the rate rise was useful, even if its impact was somewhat debatable, and perhaps not enough so far. So nothing intrinsically terrifying for global markets as a whole, surely.
Why then the spook?
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…To China
If Monday’s fall was indeed about fears of monetary tightening, it’s hard not to see the market fright as — in part, at least — a dry run for the adjustment that would be provoked by a long-awaited change of policy in Beijing.
Forget New Delhi. Lombard Street Research argued in its note on Asian indicators on Monday that China now supports much of the recent equities recovery:
Equity markets across the globe recovered fast after overshooting on the downside in the course of the global financial crisis and have perked up again after their wobble at the start of this year. But the chief support has come from a drop in risk aversion, while monetary conditions across the world, bar conspicuously in China and India, remain tight…
…this stock market recovery has been driven by an outright decrease in the demand for holding money balances, or in other words, by a surge in liquidity. Such a liquidity jump is precarious given unresolved and increasing global imbalances and China’s current massive overheating. With monetary developments actually pulling in the opposite direction, the recovery in equity markets could easily be reversed if and when market sentiment alters. The start of aggressive tightening in China could be the trigger.
Perhaps.
But there were also distinctly non-EM and non-tightening reasons for Monday’s markets to have taken a hit, not least a weaker euro and a stronger dollar, on the back of the marathon of uncertainty over Greece. A strong dollar would in turn affect base metal prices, which would in turn make London’s miners vulnerable… and so on.
But the effect of policy shifts in emerging markets on developed world stocks is still something to consider. That’s especially given that (as a Long Room-deposited Morgan Stanley note pointed out on Monday) those markets now provide almost twenty per cent of UK stock revenues.
Plenty of food for Shiva, in other words.
Related links:
So much for diversification… – FT Alphaville
India sort of ♥ Glass-Steagall – FT Alphaville
The Asian anti-inflationary effect – FT Alphaville