RBI policy: Will this be the last of the rate hikes?

The sharp rise in CPI (Consumer Price Index) to its all time high of 11.24% year on year in November 2013 from levels of 10.17% seen in October 2013 will prompt the RBI to raise the repo rate by 25bps in its 18th December 2013 policy review. A 25bps repo rate hike will take the repo rate to 8% and will be the third consecutive rate hike by the central bank. The repo rate stood at 7.25% in August 2013.

The question is will this be the last of the rate hikes given the state of the economy? India’s GDP grew by 4.8% in the second quarter of fiscal 2013-14 against a growth rate of 4.4% seen in the first quarter. GDP growth will either stay at 2012-13 levels of 5% or will fall below 5% and the 5% growth level is a decade low growth rate for the economy.

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Data from IIP (Index of Industrial Production) growth to tax collections indicate deep structural slowdown in the economy. IIP growth for the April - October 2013 period was zero percent while manufacturing growth was negative 0.3%. Direct tax collections for April-November 2013 period showed a growth of 13.18% against a budgeted growth rate of 17.5%. Indirect tax collections for April - October 2013 period showed a growth of just 5.3% against budgeted levels of 17.5%.

Vehicle sales data shows that except for two wheelers all other segments have shown negative growth in the April - November 2013 period. Bank credit growth has come off from 17.9% levels seen in September 2013 to 14.24% levels as of November 2013.

The only positive data in the economy is the trade data that shows exports grew by 6.3% and imports fell by 5.4% and trade deficit fell by 22.9% in the April-November 2013 period. However, the fall in imports was largely driven by fall of 23% in gold and silver imports that fell on the back of restrictions on credit and imposition of duties.

India’s current account balance for fiscal 2013-14 is expected to drop to levels of $56 billion from levels of $87 billion, a fall of 36%. The fall in CAD is positive for the Indian Rupee that saw record low levels of Rs 68.80 in August 2013 before regaining strength by 10% to levels of Rs 62 as of December 2013.

The country is facing election in April - May 2014 and until then economic and business sentiments will stay down. The government will be unable to do much to push for growth given that it will only go for a vote on account in January 2014 to run the country until the elections.

RBI while raising the repo rate by 25bps in its December 2013 policy review may put on hold further rate increases until a new government unveils its budget. In the meanwhile, further economic slowdown coupled with vegetable prices easing (vegetable price rise of 60% has contributed much to high CPI inflation) could bring down inflation expectations.

Arjun Parthasarathy is founder Investors are Idiots.com and INRBONDS.com. Follow him on twitter #investorsidiots