Deutsche Bank Joins India Rate-Cut Calls as August CPI Eases

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Urjit Patel.

Photographer: Mint/Hindustan Times via Getty Images
  • Consumer prices rose 5.05% in August vs 5.2% survey estimate
  • Rupee weakens 0.4 percent in a third day of declines

For the new Reserve Bank of India Governor Urjit Patel, the moment of truth is coming.

Optimism that inflation will ease after surging to a 23-month high had seen a sudden surge in bets that Patel will cut interest rates at his very first monetary policy review on Oct. 4.

The expectations were confirmed when data late Monday showed consumer prices rose 5.05 percent in August, sharply lower than the 6.07 percent reported in July and the median estimate of 5.2 percent in a Bloomberg survey. Rewind to the time of Patel’s appointment just about three weeks back, when bond markets actually sold off on the news because the former RBI deputy governor was perceived as being an inflation hawk.

Deutsche Bank AG had said a slide in food and vegetable prices and a supportive base effect will cause consumer-price gains to ease. It forecasts Patel will lower the key repurchase rate by 50 basis points by Dec. 31, compared with an earlier view of a ‘prolonged pause.’ A CPI reading of 5 percent in August will open up the possibility of a quarter-point reduction in October, according to Citigroup Inc.

“We believe CPI inflation has peaked and there is a chance of a rate cut as early as October,” Anubhuti Sahay, Mumbai-based head of South Asia economic research at Standard Chartered Plc, said before the data. “Government bonds are yet to fully price in monetary-easing expectations.”

Patel’s Test

This will test Patel, who took charge on Sept. 4. He has burnished his inflation-fighting credentials having headed a panel that suggested a consumer-price goal and the formation of an independent monetary policy committee to decide on interest rates. His predecessor and former boss Raghuram Rajan in June decided to step down at the end of his term, a move that followed criticism from an ally of Prime Minister Narendra Modi’s government who accused Rajan of stifling growth by keeping borrowings costs too high.

For Bloomberg’s profile on Urjit Patel, click here.

India’s rupee weakened 0.4 percent in a third day of declines to 66.9250 per dollar in Mumbai on Monday, as emerging-market assets dropped amid speculation the Federal Reserve is leaning toward raising borrowing costs. Local markets are shut Tuesday for a public holiday.

Gross domestic product in Asia’s third-largest economy rose 7.1 percent in the April-June quarter from a year earlier, the slowest pace in more than a year and weaker than the 7.6 percent median estimate in a Bloomberg survey of economists. The benchmark repo rate has stayed at a five-year low of 6.50 percent since April. The RBI wants to limit inflation to 5 percent by March 2017.

‘Less Hawkish’

“We expect Governor Patel to surprise the markets by being less hawkish than Governor Rajan, while staying focused toward meeting the stated flexible inflation targeting mandate,” Deutsche Bank economists Taimur Baig and Kaushik Das wrote in a Sept. 8 report. “If the RBI refrains from cutting in October,” then it will likely cut rates in December by 50 basis points, they wrote.

Swap traders too seem to be pricing in rate cuts. The cost to lock in borrowing costs for a year dropped to 6.49 percent on Thursday, the lowest since Aug. 1, and fell seven basis points in the last two weeks. The move’s been helped also by the RBI’s measures to boost cash supply in the financial system.

The rate-cut optimism comes amid a sovereign-bond rally that has already sent benchmark yields to seven-year lows as a global hunt for yield lures foreign investors to Indian debt. The yield on government notes due January 2026 dropped six basis points last week, the most in about a month, with its close of 7.04 percent on Thursday being the lowest for a benchmark 10-year security since August 2009.

Foreign Funds

Overseas holdings of rupee-denominated government and corporate bonds climbed 31.2 billion rupees last week, the most since such a period ended July 15. The yield on the 2026 securities was up three basis points at 7.08 percent on Monday.

“A section of the market is expecting the central bank to reduce rates as early as October,” Suyash Choudhary, Mumbai-based head of fixed income at IDFC Asset Management Co., which oversees about 543 billion rupees. “If the rate cut is accompanied by a still dovish guidance that keeps market expectations for further easing alive, we can see” the 10-year yield dropping another 15 basis points, he said.

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