Interest rates have to fall to 5.5-6% to spur growth

Edelweiss Chairman Rashesh Shah feels a 25 basis points (0.25 percent) cut in the repo rate is likely when the Reserve Bank of India (RBI) meets on 18 June for a review of its annual monetary policy. However, Shah says this would hardly be enough. The economy needs four or five more cuts and rates need to come down to the region of 5.5-6 percent to bring the growth momentum back.

“The factors are in place for a 25 bps rate cut on 18 June. But unless there are four or five more cuts after that, it won’t make much of a difference,” Shah told Firstpost in an interview. “Even after a 25 bps rate cut, you’ll still be at 7.75 percent. You need rates down to 5.5-6 percent at least to spur growth. I don’t know whether the RBI has room for four-five cuts this year.”

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[caption id=“attachment_337798” align=“alignleft” width=“380” caption=“Edelweiss Chairman Rashesh Shah said the markets were hoping for more cuts this year even after a possible rate cut on 18 June. Firstpost”]  [/caption]

Shah, whose Edelweiss Group offers a range of financial services from asset management, life insurance to home loans and investment banking, said the markets were hoping for more cuts this year even after a possible rate cut on 18 June. “But inflation remains sticky. It’s not coming down. If oil prices go up again on a quantitative easing (QE3), then once again there will be implications. Oil long is always equal to dollar short. In India’s case, much of the consumption-driven growth is a result of social spending. For inflation to come down, the supply side constraints have to be opened up,” he said.

“If you’re consuming but there’s no supply because investments are not happening as they should, that’s always going to be inflationary. On the other hand, if you squeeze consumption, there’s the risk of GDP coming down, which is what we’re witnessing,” Shah explained.

The GDP growth rate, he said, has to ideally be 150-200 bps higher than inflation. “So if inflation is at 7, your GDP should be 8.5-9. Inflation and GDP at 7 is not good. And inflation higher than GDP will not be a good time for India.”

Pointing out that inflation won’t be addressed merely by oil prices coming down, he reiterated that the supply side must be freed up. Commenting on the initiative taken by the Prime Minister’s Office on kickstarting core projects, he said if investments started now, the results will be seen in a year or 18 months. “It’s good we’re starting now at least. But we have to see action rather than just talk. Diesel pricing, freeing FDI in retail and insurance…a lot of things are there to be done. Real confidence will come once these things happen. Now it’s largely sentiment driven,” Shah said.

Pointing out that generally governments act only when there’s a crisis, he said the fall in the rupee and the GDP figure of 5.3 percent for the fourth quarter of FY12 had now created a sense of crisis. “That’s how all democracies work. We don’t allow governments to work unless there is a problem. We allow them to fix problems only after it has happened,” he pointed out. “The macro parameters will take a year or year-and-a-half to return to better levels, though the sentiment may improve before that.”

He said a possible exit of Greece from the eurozone will also have implications for India. This apart, if oil climbs back to $108-110 levels on QE3, there will be a fresh panic situation in the country. “We in India are constantly worrying about one thing or other. But a 10 percent increase can happen in oil after falling 18 percent in May. We can’t always worry.”

Shah reckoned that India will do 6 percent growth, which is “not great.” He said: “At 6 percent profitability won’t be high, employment creation will also not be high. At that rate, it will create three million jobs a year when we need 8-10 million jobs. Everything is sub-par at 6 percent.”