RBI almost confirmed a 50 bps rate hike in June and subsequent meetings; metals plunged after the export duty hike

Depending upon the trajectory of the Russia-Ukraine peace agreement/lingering war and inflation, RBI may cumulatively hike to +6.50% or +7.15% by Feb’23 (against Fed’s +2.75% or +3.50% by Dec 22)

India’s benchmark stock index Nifty closed around 16214.70 Monday; stumbled almost -0.32% as RBI almost confirmed another 50 bps rate hike in June coupled with further similar rate hikes in subsequent meetings; metals dragged after export duty hike. Nifty closed around 16266.15 Friday; surged almost +2.89% on positive global cues amid China's rate cut and RIL boost. On Friday, RIL soared on reports of higher GRM as the refining giant is purchasing a huge quantity of distressed Russian oil directly/indirectly at a heavy discount. Also, there was a buzz that RIL may soon list R-JIO and R-Retail to deleverage its balance sheet.

On Saturday, the Indian Government slashed additional excise duties (RIC) on petrol and diesel by Rs.8 and Rs.6 per liter. On average Petrol prices will reduce by Rs. 9.50 & diesel by Rs. 7.00/liter as a result of Federal RIC/tax reduction. Indian PM Modi also appealed to various non-BJP states to reduce their part of excise duties/VAT on transportation fuel to give relief to the common people. Various states may also reduce around Rs.2.50 and Rs.1.50 per liter on petrol & diesel on an average. This will eventually result in around Rs.12.00 and Rs.8.50 per liter total reduction in petrol and diesel if OMCs pass on the full benefit without adjusting their past losses.

The Modi Government will also provide a subsidy of Rs.200/LPG cylinder (up to 12 in a year for around 50M BPL family under the Ujwala scheme) in a bid to control inflation and give ordinary people some relief ahead of a series of state elections in 2022 (Assam, Delhi Punjab, Haryana, HP, Karnataka, Maharashtra, and Mizoram).

The Indian Government also cut custom/import duties (tariffs) on various plastic products, and essential raw materials and their intermediaries for Iron & steel products to rein on surging inflation. And to increase domestic supplies/availability, the Indian government also increased/imposed export duties on iron ore and various finished products of iron & steel.

In any way, the Indian Federal government provided around Rs.1T fiscal stimulus by way of oil tax cuts on 21^st May. The revenue implications for custom duties rejig is estimated around Rs.0.20T; i.e. gross fiscal stimulus around Rs.1.20T/year. The Indian government may add another 1T worth of fiscal stimulus through higher subsidies on Fertilizers and another round of tax cuts on transportation fuel if global prices of oil continue to jump.

In brief, the Indian Federal government may put around Rs.2T worth of additional fiscal stimulus in FY23 for price stability as the inflation jumped to a multi-year high, which is now fast becoming a political headwind for Modi ahead of a series of elections in some important/big states. The Indian Government also gave a fiscal stimulus worth around Rs.1.20T/per year by way of tax cuts on petrol & diesel in Nov’21.

The retail price of petrol & diesel increased by over 20/- and 15/- per liter since March (after the Russian invasion of Ukraine) and the price is expected to reduce by around 50% of that increase. The Indian Federal Government has earned around Rs.7.85T revenue in FY21-22 and is now giving back Rs.2.1T/year. Overall, Friday indirect tax cuts may lower headline CPI by only -0.20% after a few months.

On Sunday, Indian government sources (unnamed officials) said:

·         The government is considering spending an additional Rs.2T ($26 billion) in the current fiscal to cushion consumers from rising prices and fight multi-year high inflation

·         The new measures will be double the Rs.1T hit government revenues could take from tax cuts on petrol and diesel the finance minister announced on Saturday

·         We are fully focused on bringing down inflation. The impact of the Ukraine crisis was worse than anyone's imagination

·         The government estimates another Rs.0.50T additional funds will be needed to subsidize fertilizers, from the current estimate of Rs.2.15T

·         The government may need to borrow additional sums from the market to fund these measures and that could mean a slippage from the fiscal deficit target of 6.4% of GDP for FY23

·         The actual number of additional borrowing would be depended on how much funds are eventually diverted from the budget in the FY23

·         The Government plans to borrow a record Rs.14.31T in the current fiscal year

·         The additional borrowing will not impact the planned April-September borrowing of Rs.8.45T and may be undertaken in January-March 2023

On Friday, to control domestic inflation, the Indian government imposed a 15% export duty on finished steel, which will put pressure on export realizations and may also impact domestic prices. Also, there will be a 20% additional export duty on iron ore and 45% export duty on iron pellets, while the import duty of cocking coal was reduced to 0% from 2.5% (small 700/- per ton benefit). All there are negative for the Indian iron & steel industries. Subsequently, Tata Steel and JSW Steel plunged. But Real Estate, Cement, infra Consumers Durables, and Automobiles may benefit going forward if domestic iron & steel prices go down as expected because of possible higher domestic supplies amid ‘unattractive’ export prices. Europe is now the main exporting market of Indian steel manufacturers after Russia invades Ukraine.

Tata steel export around 35% to Europe against 57% domestic/India sales. JSW exports around 25% against 75% of the domestic sale. These firms also have overseas manufacturing facilities. But increased domestic supplies from other manufacturers may dampen price realizations. But considering all the pros & cons, the government may also allow steel export at 0% export duty which was already in dispatch process or order taken before the sudden policy change on 21^st May.

On Monday all focus was also on an unscheduled interview of RBI Governor Das, who said:

·         Will ensure non-disruptive completion of government borrowing

·         Will be able to manage current account deficit comfortably this year

·         Rising imports point to a revival in domestic demand

·         Monsoon is looking good, rice stocks are at 4x buffer, wheat at 1.8x buffer

·         External debt is only about 20-21%

·         Will not allow runaway depreciation of the rupee

·         Will be able to finance the trade deficit comfortably

·         Will prevent excessive volatility in the currency market

·         The rupee has remained quite stable & done better than several EMs

·         IMF meeting gave a better assessment of global inflation (on the question of whether the IMF meeting pushed sudden rate hikes in June)

·         Banks have been asked to keep  a close watch on NPAs

·         Bank credit growth at 11%,  almost twice last year

·         HDFC-HDFC Bank merger proposal  is under examination

·         Crypto markets have crashed

·         Crypto assets have no underlying, hence tough to value

·         Measures announced by the government will have a sobering (serious) impact on inflation

·         Entered into another phase of co-ordinated action between fiscal & monetary authorities to control inflation

·         An increase in rates is a no brainer, but saying 5.15% is not accurate

·         Will normalize liquidity over 2-3 years

·         I Sense that the government will maintain the fiscal deficit target. RBI will use all instruments to ensure orderly trend/evolution in the yield curve

·         Our target was to tolerate inflation up to 6% last year; inflation came down several times to near 4%

·         In February, we had assumed oil under $100/bbl. The roadmap in February showed that inflation would moderate

·         Inflation projection will be realistically given in the next MPC meeting in June

·         One of the reasons for ‘out of turn’ rate hike action in May was to avoid a steep hike in June

·         Broadly RBI wants to raise rates in the next few meetings, at least in the next meeting

·         Will bring down excess liquidity in a calibrated and phased manner

·         RBI's mandate is to ensure price stability while keeping in mind the objective of growth

Modi admin is now responding to RBI’s clarion call to take some action on the supply-side and to reduce taxes on transportation fuel to help inflation down to give RBI some space ahead of RBI meeting on 8^th June, when RBI may hike +0.75% to control demand and inflation. Fed is slated for a cumulative hike of +2.00% by 27^th July after expected +0.50% rate hikes in June and July. RBI has to match Fed and thus may also hike +0.75% in June and +0.50% in August.

But now after the Modi admin’s indirect tax cut moves, RBI may go slow on rate hikes to see, whether the supply side action by the fiscal authority (government) will have any real effect on core inflation, which is now hovering around +7.00%, substantially higher than RBI’s +4.00% target. RBI may now hike +0.50% in June instead of +0.75%. then RBI may hike +0.50% in August and September for a cumulative +1.90% rate hike against Fed’s +2.00% move. Then depending on the actual inflation trajectory in India, Fed’s likely rate action moves in September, November, and December, and RBI will also act further in December and February.

On Monday, Dow Future surged after a report that Russia is studying an Italian peace plan for Ukraine. Russian President Putin is now looking for a face-saving exit from the protracted Ukraine war, in which Russia is losing heavily both on the economic and military front. Putin overestimated Russian conventional military strength and underestimated Ukraine's defense (along with active help from NATO/U.S.) and G7 economic sanctions.

Now, the trajectory of inflation and central bank hikes will largely depend upon the trajectory of the Russia-Ukraine/NATO war/proxy war. U.S. President Biden is also under huge political pressure back home for inflation despite Biden trying to shift the entire blame to Putin. In any way, Biden is also eager to control inflation before Nov’22 mid-term election and thus he may also accept such an Italian peace plan.

As per reports, Italy's four-stage Russia-Ukraine peace plan would feature a ceasefire, talks on Ukraine's 'international status, i.e. whether it is neutral, a bilateral agreement between Kyiv and Moscow on the contested areas of Crimea and Donbass, and a multilateral agreement on peace and security in Europe.

Thus if there is some kind of peace agreement between Russia-Ukraine and subsequent withdrawal of key economic sanctions, which caused significant supply chain disruptions in key commodities including oil & gas and some food items, inflation will be bound to moderate. In that scenario, Fed will not go for bigger hikes in September, November, and December. But if the real/proxy war between Russia-Ukraine/NATO intensifies/lingers further Fed has to go for +0.50% rate hikes (if not +0.75%) in September, November, and December.

Bottom line:

Depending upon the trajectory of the Russia-Ukraine war/peace agreement, Fed may hike cumulatively to +2.75% or +3.50% till Dec’22. Accordingly, RBI also has to hike to +6.50% or +7.15% by Feb’23 as RBI has to follow Fed, whatever may be the rhetoric.

Looking ahead, whatever may be the narrative, technically Nifty Future now has to sustain over 15600 levels; otherwise, 15400-350 may come and sustain below that Nifty Future may further fall to 15000/14850-14400/13900 and even 13675/13050-12190/11670 in the coming days. On the positive side, sustaining above 15600, Nifty Future may rally to 16000/16200-16600/16925 and further 17250/17450-17625/18230 levels in the coming days.

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