Finally, it feels like we passed a pandemic after a long drawn meeting. It has a grated network effect not only in our lives but also on the global economic landscape. While fiscal and monetary impulses given during the pandemic ensure rapid economic turnaround, after the financial system is now allowed to support the record of record sovereignty and asset assessments that are rich with little or no central bank support. This transition is from pandemic to endemic, although there are many desirable, it turns out to be an uncomfortable change for the financial market which is addicted to stimulus.
In an effort to fight a pandemic, the government around the world has loosened the wallet string on loan money. In the US, the debt of nosional government only reached a record $ 30 trillion, with a debt to GDP ratio of 125 percent of 104 percent just before the pandemic. In India, the government is circulating government circulating projected to cross Rs 90 lakh crore at the end of FY23, up 50 percent from Rs 60 lakh crore at FY20. Apart from a large increase in loans, the results of sovereign bonds have so far orderly because most of the issuance of debt is supported by the purchase of the central bank.
The support of this central bank for government loans is a source of extraordinary market comfort while taking place. But for every sugar stimulus in a hurry, there is a bitter tapering pill. The ongoing transition from pandemics until endemic means excessive monetary accommodation is increased again. The high level of inflation “not so transitory” only serves to speed up this process, because the central bank increasingly finds themselves falling behind the curve. In other words, normalization of monetary policy carefully after leaving the pandemic.
On the other hand, the glide path to fiscal consolidation is a relatively slow process. Therefore, government loans tend to remain increased. The purchase of the central bank is not present, the bond market must now absorb this high supply dominantly on their own. The US Federal Reserve, for example, concluded the asset purchase program in March and has signaled monetary tightening as soon as possible. The Bank of England has provided two consecutive interest rates and the Bank of Australia reserves recently ended the purchase of government bonds.
In India as well, the recent budget has provided emphasis on capital expenditure, but it has come up with a large loan program fee for FY23. Even as inflation headlines remain in the Bank of India (RBI) target bank reserves, inflationary pressure remains because the inch of oil towards $ 100 per barrel and the WPI inflation remains in two digits. With the normalization of a major policy, RBI support for the bond market is expected to remain constrained. This has weighed on the bond market sentiment. However, a sharp increase in the results of bonds recently might have tightened financial conditions too quickly for the comfort of RBI.
In the coming meeting, we expect the Monetary Policy Committee (MPC) to build cases for tightening policy tightness and measurably to maintain bond market sentiment remained controlled. We believe MPC will gradually normalize Repo Rate-Reverse Repo Corridor (up to 25 bps) during the next two meetings, starting with a reverse repo 20 bps rate hike in February. Furthermore, MPC will change the attitude of the accommodative policy to be neutral, finally starting a cycle of gradual interest rates.
In our view, the MPC guide on the normalization of liquidity can also be equally hasty, with the introduction of the increasing VRRRS tenor (variable reversing the Repo ratio) during the period. It is difficult, in the future, the RBI must juggle deftly and does not interfere with conflicting goals of inflation, normalization of liquidity and management of government loan programs. Along the way, sometimes the market may remain organized, but sometimes it might not.