Interest Rate and Expectations, US, INDIA.....

Now, the Fed has increased interest rate in real terms or inflation adjusted terms by 25 basis points... 2.25% feds fund rate and 2% inflation which might start really affecting the economy... most of the companies listed in the stock market are export oriented companies, however a strong dollar has shown exports contracting and imports swelling in the recent months, which have increased the possibility of further Trump strikes on imports increasing inflation and expectations and loss in the US' competitiveness, including higher capital cost, aggravating the problem of lower exports and more imports due to depreciation in the trading partners economy... 

Depreciation and outflows and uncertainty in the EMs, due to the monetary policy in the US, could also affect growth in the US, which could increase the unemployment rate negatively in the days to come due to lower exports and higher imports... 

A strong dollar is responsible of more imports to the US and uncertainty on the global front, which would further strengthen due to the tight monetary policy and a safe haven image.... 

A stronger dollar is one of the reasons of high imports and CAD in the US and in the EMs due to dollar denominated oil… 

Trump policies are just badly timed when the economy is close to full employment… 

At this point it is just fine to stabilize inflation, interest rate, dollar and expectations at full employment and increase productivity through investment in education, innovation and skills for which lower interest rate matters, too…

In INDIA… rising inflation and inflation expectations have given rise to higher interest rate and expectations that have put brakes on the still slow recovery from the past slowdown which could be attributed to high food prices and interest rate hike during UPA, but this time higher oil prices and interest rate and expectations are the causes of slowdown expectations in the Indian economy which has cut on the current cycle of economic expansion, the UPA was constrained by food and the NDA is now restricted by the oil…

Nonetheless, interest rate hike and expectations amid higher oil prices and dollar demand and depreciation have also resulted in NPAs and default by some companies and financial companies and stock market has been going through period of correction and uncertainty that has also led to capital outflows from the both, the debt market and the stock market also owing to interest rate hike and strong dollar and expectations in the US further leading to higher CAD and dollar demand, nonetheless lower fiscal deficit during NDA has kept inflation and depreciation under check than the UPA which is quite commendable…

Notwithstanding, oil prices and the resulting inflation and expectations have been the sole reasons for interest rate hike and expectations and short economic boom and upcycle in INDIA which could be saved if the government think of ways of reducing price or inflation and inflation expectations and increase rate cut and rate cut expectations… which could lengthen the economic expansion and growth and growth expectations which could also increase capital inflows and stop depreciation and increase rupee appreciation and expectations…

Since, oil prices are responsible for the ruckus in INDIA, the solution must concentrate on oil to reduce inflation and interest rate and expectations, and oil prices could come down only if we increase supply or reduce cost, also through lower borrowing cost, but higher dollar prices have further put pressure on the oil prices which has constricted supply and expectations and are major constraints on supply, however if we reduce oil cost and prices by increasing blending of bio fuels and fossil fuels as much as possible prices might come down , although the government is aware of the idea, but INDIA has a low base for bio fuels or raw materials, nevertheless it could increase imports of bio fuels and raw materials from other countries like US, Brazil and Germany, but it has recently imposed tariff of bio fuels which could further increase the price of oil…

Bio fuels are much cheaper than fossil fuels and could reduce demand of fossil fuels and dollar and could also help reduce cost and prices of oils.....            

The Price Transmission Mechanism... rupee, oil and others and tax revenue...

There is onething missing that Masala bonds, in the discussions, i hope the minster is talking about the same NRI bonds, are likely to increase rupee appreciation by increasing its demand and not due to foreign exchange inflows alone directly, however they might increase because of strong rupee expectations but as long as there are depreciation and expectations inflows are unlikely to resume which could further worsen foreign exchange inflows unless the policy makers commit incentives to make the rupee strong... 

Masala bonds do not directly increase inflows....

Oil prices, strong dollar/weak rupee and higher interest rate and expectations have spoiled the investments and growth, all because of a weak and incomplete communication by RBI, it failed to increase investment and growth and the government is resorting to base year revisions to increase growth which is more responsible for revenue growth than just oil... 

At one side is oil and at the other all others, which also affects growth and revenue from all otherthings due to higher interest rate and expectations.... 

The Govt must refurnish the estimates and trade off between revenue from oil and from all other things..... 

RBI's communication could also help increase growth and revenue; at this point it is expected to stabilize inflation and interest rate and expectations, which the government might reinforce with lower oil prices and fiscal deficit.....  

The same is also responsible for the stock market rout in NBFCs witnessed recently......


The FNOG - finance neutral out gap - is only a proxy indicator of NAIRU - the non accelerating inflation rate of unemployment - in the absence of data on unemployment or full employment... The rate of growth of workforce or population decides the level of potential output or growth...Full employment means full output... The US does not use FNOG... at least i''ve not heard about it... they use full employment or the unemployment rate to decide the output gap..... and interest rate considerations...

The stock market investors are impatient people and less united... Investors must practice patience... They should quote a single bid price and offer price... It is the investors that make up or mar stock prices...

The 2008 financial crisis in the US was mainly a shadow banks misconduct which must be properly regulated... The bid to lend to the priority sectors could prove to be same as priority lending by public sector banks under UPA and the resulting NPAs... Government is repeating UPA...

People in INDIA do not know about the oil stock or inventories…If people would not know about demand and supply and expectations, how they would invest? Actually higher oil prices should increase supply and expectations, but it is not, because of low investment and expectations and more imports and higher dollar and expectations.... 

Trump has aired about supply cuts and higher oil prices and a strong dollar that increase exports to the US which may force oil companies to increase output and lower prices and reap economies of scale and profits... 

People think that lower prices reduce supply, but forget that higher supply also lower prices and increase demand and expectations....

Prices and Price Expectations, and Depreciation and Expec...

Probably, INDIA''s demand for $ is now high due to less capital inflows which is likely to increase demand for dollar denominated loans further with government initiatives which again means stronger dollar... 

INDIA demand for dollars has not gone up, but due to unfavourable oil prices and inflation and expectations and strong dollar due to safe heaven image during trade wars and uncertainty and tightening in the US... 

But, inflation breeds inflation and depreciation more depreciation which is the main cause of outflows from debt and equity and when $s outflow it increases inflation and depreciation, in this situation more demand for dollars would make it stronger... 

However, INDIA has not any BoP crisis due to higher $ demand, but low supply due to outflows which has increased depreciation coupled with higher oil prices... 

Oil prices are an important trigger for inflation and inflation expectations and depreciation and expectations and interest rate hike and expectations and strong dollar too... 

The direct intervention in the exchange market to sell more dollars and reduce depreciation of rupee could help restore inflows which could also increase appreciation of the rupee and lower inflation and interest rate and expectations which have been the prime causes for outflows, besides higher oil prices which have further increased demand for the dollar...

The problem in INDIA is inflation and inflation expectations due to weak supply of oil, and of dollar also, compared to demand, which are also the causes of depreciation and expectations and outflows and further depreciation and expectations and interest rate hike and expectations which are likely to make credit costly when inflation and inflation expectations have already reduced demand and growth expectations... 

The effect of higher import prices due to weak currency would be magnified by further import tariffs on the economy... and could invite foreign retaliation... 

Foreign capital is important for INDIA at this point of NPAs and slow investment pick up... 

For this to happen it is important that INDIA commit a stable and low inflation and strong exchange rate and higher foreign capital inflows...

Lower inflation and lower wage demand and lower interest rate could also make the exports competitive if exchange rate remains stable or depreciate little (due to lower interest rate)...

The government might lower oil prices and the RBI might try to increase supply of dollars in the exchange market to reduce inflation and depreciation and expectations and increase interest rate cut and rate cut expectations which is further likely to reduce cost and prices the economy wide...

Oil companies are exporting inflation and CAD which have increased depreciation in the EMs and exports to the US... The higher Oil prices are the result of supply cut by the OPEC... Higher oil prices are due to increased Cartelization...

The US…

The continuous lose money supply and longer and lower interest rate expectations, QE after zero lower bound, might have delayed spending and growth in the US, like higher supply and lower price expectations delay demand and spending in the stock market, which rest low as long as QE kept pouring money... 

Probably, when the QE stopped, subjects stopped expecting lower interest rate and resumed spending; they also might have expected higher interest rates... Higher supply of money lowers interest rate and expectations.....

[Oil] Prices and Growth...

Oil prices for India are supply side problem... Controlling demand through higher prices is only a short run aid... When lower oil prices could also help consumer in the short run... And, try to improve supply in the long run...

INDIA is also an exporter of oil to an extent... And, second highest exports from the country... Export tariffs might increase domestic supply and lower the price level...

It could also help maintain the fiscal deficit... Tariffs would increase the government revenue...

True, sanctions on countries like Venezuela and Iran and supply cut by oil producing countries have resulted in higher oil prices... which could come down as the conflicts resolve and the oil producing countries resume supply... Oil importing countries must raise voice against supply cut and monopoly of oil producing countries to boost oil prices and profits...

The Government, including States (INDIA), is getting 50% tax on the oil prices which could be easily brought down 10% to around 35-40% which is likely to bring inflation down and might appreciate the exchange rate and also reduce inflation and interest rate and expectations.... Lower spending by the government would be replaced by consumer spending without sacrificing or lowering the growth rate... Lower inflation could also increase competitiveness of Indian exports.... Lower interest rate would also increase private spending... Lower oil prices and inflation and interest rate and expectations could increase growth... Strong exchange rate could also increase foreign capital inflow... Lower oil prices could be reinforcing lower prices if the economy is below full employment due to higher demand and supply and production and investment and employment and growth and expectations.....

Population growth rate decides the potential growth or growth rate of an economy... To increase growth it (the US) must increase its labour or workforce by more immigration of labour or skilled labour which means less protectionism and open flow of people and products... Lower inflation and lower interest rates to achieve full employment would help domestic employment and production and growth.... Or the US may try to increase productivity by innovation by increasing research and skills of its labourforce... which may not happen at once or could take time.....

As long as unemployment is there we could not expect inflation b'coz higher money supply would increase demand and supply, both, and could contain prices or inflation... Nonetheless, lower prices suggest that supply has surpassed demand and more easing would further lower price and price expectations as long as there is unemployment because production and supply would increase... Lower prices and price expectations could delay spending which could reinforce lower prices as long as there is unemployment in the economy... Faster employment creation could increase the pace of recovery and after full employment prices might increase... If money supply is fixed it would help stabilize price and price expectations which might help increase spending... If people expect neither higher nor lower prices they would stop expecting or speculating anything and might resume spending which could lower unemployment and increase price and price expectations after full employment.....

Stable Interest Rate at Full Employment...

The full employment and a strong US economy are not the reasons of rate hike alone, but only if they coincide with the inflation and inflation expectations, nonetheless it is true that the Fed is tightening in the hindsight of inflation and expectations when the economy reached closer to the full employment and a strong economy gave it back up for rate hikes to act during the next crisis by normalizing the interest rates without slowing the economy when it set an inflation target of 2% which has been consistently near the target after undershooting for years eventhough the unemployment reached 5% a figure said to be close to full employment.

Nonetheless, prices or inflation and inflation expectation have failed to materialize to a considerable extent except the stock market which has been close to life time high amid the debate that too much higher short run rates or inverted yield curve when the gap between 2-years bonds and 10-years bonds increases against the fundamental that long run rates are higher than the short run rates which might lower demand for investment and increase selling stocks and bonds and deleveraging and defaults due to too much higher rates which is right for both the US and the emerging economies.

This has happened many times in the past when the yield curve inverted which had led to recessions, the Fed is trying to avoid this this time, but it is really a big question that it would succeed since it has missed it many times before that met slowdown in the past business cycles, the economy eventually hit recessions everytime before when short run interest rates exceeded the long run rates, however the economists knew about neutral real interest rate that neither boosts nor contracts the economy, but failed to follow.

The point that was probably missed during the past recessions that higher borrowing cost could further increase inflation by reducing supply if the economy is at full employment and lower investment which increases or magnifies the lower supply and inflation cycle, the Fed failed to notice that higher unemployment and lower investment would also increase inflation and would not let supply side mechanism work which increases supply with higher prices.

Nonetheless, had the Fed used the neutral rates around full employment it had better managed demand and supply and inflation and growth of the economy because lower interest rate also increase productivity of capital which might lower the price level and inflation that may increase investment and allocation of labour to the sector which have been overheating, stable interest rate could further increase trade and imports which might also reduce the price level...

Moreover, the Fed might claim that full employment increased rate hikes and slowdown which should had been be dealt with stable interest rates rather than rate increases that would help contain unemployment and production and demand and supply and prices.

Higher interest rates would also lower supply and increase the price level.

The neutral rate is nothing cast in the stone and might vary with supply side measure or prices or inflation and structural changes in the economy; a higher inflation could increase the neutral real rate of interest rate and a lower inflation could lower the neutral rate.

Similarly, full employment could also vary within a range depending on the rate of population growth and workforce and wages, higher wages could also increase labour force participation and lower unemployment or increase the full employment rate.

Stable interest rate and prices near full employment could be crucial to balance the economy, however deviations apart from full employment are self-fulfilling in nature, a lower interest rate would lower the price level and a higher interest rates could increase the price level depending on the level of unemployment or full employment, if the economy is below full employment a lower interest rate would lower the price level by increasing investment and employment and supply and a higher interest rate would lower employment and supply and increase the price level.

Notwithstanding, only if the economy is at full employment a lower interest rate would increase inflation because demand would go up and supply cannot be increased and a higher rate would lower demand and inflation or prices which would reduce supply.

Higher Interest Rates and Strong Dollar in the US and the Emerging Markets...

The current global scene is one of uncertainty since there has been tightening and strong dollar and expectations in the US due to full employment and a strong economy amid the debate that how far we are from the neutral real rates, however prices are stable. 

But, this has increased instability in the emerging economies coupled with the ongoing trade war between the US and China and few others, but depreciation b’coz of strong dollar might further aggravate the problem of exports to the US from other countries and the outflow of capital from the emerging markets would increase the problem of depreciation and trade deficit in the US.

Nonetheless, the Fed could avert a global slowdown in the US and emerging markets by delaying the rate hikes that would keep the dollar cheap and would help increase the US’ exports and would reduce outflow from the emerging markets and depreciation because of higher trade deficit and dollar demand also in the face of higher oil prices which could help balance deficit for economies overboard. 

But, an atonce too much increase in interest rates and inflation and expectations could increase the effects of tightening and strong dollar that could push the economies back to turmoil and adjustments which is by far improbable and only if the yield curve inverts too much or short run rates increase too much and choke investment and reduce stock holding or increase selling and trigger a recession. 

Tighter money supply and increase in interest rate, both short run rates and long run rates, to achieve price stability and full employment and vice versa... to achieve the equilibrium or neutral rates... is the goal of the monetary policy… In the aftermath of the recession 2008 the Fed increased money supply and lowered long run and short run rates to stop default on home loans, higher inflation and higher interest rates increased defaults and chances of default... 

Housing industry is very employment intensive and when the bubble burst it increased unemployment to over 10% and lowered demand alot which kept the inflation low, biased lower, for a long period resulting in lower interest rate... A too much higher interest rate would again increase cost and cost of living and the risk of default.... 

Not every business or household has the ability to cope with higher inflation cost, wages or incomes and interest rate which also reduce demand along with supply... A lower borrowing cost is important to avoid defaults and maintain price stability and employment... and, increase growth and growth expectations...

INDIA during the Apr-Jun quarter increased the growth to 8.2% on the back of higher manufacturing and agricultural activities, but depreciation has been a worry in the short run for fiscal spending and current account deficit due to higher inflation and expectations owing to higher oil prices, a cheaper dollar by the increasing supply of dollar could also help control inflation and inflation expectations, otherwise the long run story of INDIA remains intact given the demographic dividend and higher domestic demand.    

This could be the right time to reduce some revenue and spending and inflation and interest rate and expectations and increase spending and growth expectations through lower oil prices and revenue... The Government earns 50% in tax on oil prices... and must bring it under GST....

Lower prices and interest rate and expectations could also reduce interest rate payment on public debt and help contain deficit and debt... If the government lowers taxes it also means that spending has been passed on to the agents... it is also a kind of spending... during an election year...

A degrading external environment due to trade wars and protectionism might help the Indian economy through lower commodity prices like oil due to lower external or global demand since it is a more domestic demand driven economy and a net importer...