India joins emerging markets in pulling interest rate trigger

Bloomberg

India’s central bank raised its benchmark interest rate for the first time since 2014 to curb rising price pressures and calm financial markets as policy tightening in the US rattles emerging markets.
All six members of the Monetary Policy Committee voted to increase the repurchase rate to 6.25 percent from 6 percent, the Reserve Bank of India said in a statement in Mumbai on Wednesday. The move was predicted by 14 of the 44 economists in a Bloomberg survey, with the rest seeing no change.
The RBI cited volatile crude oil prices and global financial market developments as a risk to its outlook. Oil is India’s biggest import and rising prices is a threat not only to inflation, but also the nation’s sizable trade deficit, putting more pressure on the currency.
The move comes as central banks in emerging markets from Argentina to Indonesia step up action to counter capital outflows and weaker currencies that threaten to drive up inflation. In India, consumer-price growth is already above the central bank’s 4 percent medium-term goal.
“Raising rates is a right move,” said N.R. Bhanumurthy, an economist at the Delhi-based National Institute for Public Finance and Policy. “Given the international conditions — rising oil prices, the Fed’s rate policy and the fact that other emerging markets have already begun raising rates — RBI should have probably raised rates earlier.”
India has been swept up in an emerging market rout, triggered by a stronger dollar and higher US interest rates. The rupee is down 4.7 percent against the dollar this year, Asia’s worst performer.
CPI inflation was projected at 4.6% in H1 and 4.7% in H2, excluding impact of higher wage allowances for government employees. CPI was projected at 4.8%-4.9% in H1 and 4.7% in H2 including housing allowance to government staff. Major upside was seen to inflation due to higher oil prices. Fiscal year 2019 GDP growth forecast was retained at 7.4%
Governor Urjit Patel recently called on the Federal Reserve to slow the pace at which it plans to shrink its balance sheet to help emerging economies cope with the market turmoil.
“This probably marks the start of a modest hike cycle,” said Shilan Shah, an economist at Capital Economics Ltd. in Singapore. “It will be followed up with further increases in the next six months or so and we expect the repo to reach 6.75 percent by the first quarter of 2019.”
Data show India’s foreign-exchange reserves have fallen by $14 billion in the past six weeks as the RBI is said to have stepped up intervention to support the currency.
A rate hike complicates the growth outlook in an economy that’s showing early signs of an uneven recovery. While growth is strengthening, the services industry, which contributes about 55 percent to gross domestic product, probably contracted in May for the first time in three months, according to the services purchasing managers index.
The Reserve Bank of India’s surprise decision to raise rates signals strong intent to keep inflation in check in the face of the oil supply shock. It is likely to hurt the growth recovery, and turn out to be a one-and-done policy error, in our view. Inflation and growth are already poised to slow in coming months as base effects kick in, said Abhishek Gupta, Bloomberg Economics.