Simultaneous...

The recent fall in the oil prices around 25% and the simultaneous appreciation of Rs 2.20 in the past week have turned around the macroeconomic scene in the economy (INDIA) due to lower inflation expectation in the hindsight of the data expected in the coming months after October, which may again push the central bank to reconsider its inflation and interest rates expectations and forecasts further lowered by food price inflation.

However, retail inflation has already gone to 3.4% down in the past two months, even though, fuel prices had showed some pressure which is likely to go down in the data in the future.

Moreover, INDIA’s growth has been over shadowed by the NPAs on the private sector and the public sector bank’s balance sheets since the recognition started after 2013 under overheating and escalation in cost of businesses due to higher inflation and interest rate that aggravated to problem of NPAs which account nearly Rs 10 Lakh Crores.

Prior to 2013, both, food and fuel prices were at their highest due to fiscal profligacy which increased demand without increasing the needed production and coherent reforms and policymaking, nonetheless inflation during the present government has been mainly on the account of imported inflation, especially oil prices that restricted the growth expansion, in addition both the fiscal (3.3%) and current account deficit (2.6%) are quite low, too.

The RBI must admit that NPAs in the Public Sector Banks have grossly affected credit creation and rate cuts as not expected further subdued credit demand and growth... Banks have failed to supply loans as expected, which has put the onus on NBFCs that thrive on banks to advance loans that has increased significantly during the past years at the cost of commercial banks business, but higher interest rate and expectations have made the borrowing costly resulting in defaults...

Although, growth continued, the RBI may not refuse that NPAs did not let demand recover considerably from the last slowdown which could be improved by increasing money supply to promote loans and growth by reducing CRR and other options...

The RBI may not admit, but INDIA is going through, although, a mini crisis which demand contingency funds to be used to sustain growth... RBI must follow the international norms like Basel to decide capital adequacy which requires lower capital ratios than used by it...

Handing excess reserves to the government could increase inflation and expectations if it directly increases employment without increasing the productivity, which lowers inflation and expectations,

However, if it is used to recapitalize banks it would be just since it would channelize investment where we have low supply and higher prices and expectations, like oil, which could increase supply and lower inflation and interest rate and expectations....

The fiscal spending directly increases employment and demand and inflation and expectations, whereas lose monetary policy increase investment, employment and supply where there is higher price or return expectations...

But, the RBI is very slow to recognize this and deliver rate cuts to reduce borrowing cost and increase productivity of capital and competitiveness of the economy, when the job creation is low compared to addition in the workforce, we need 10. 2 million jobs every year to keep all employed, which is also (FULL EMPLOYMENT) the goal of monetary policies besides price stability, when inflation and fiscal deficit and CAD are contained it is prudent to lower unemployment, nevertheless exchange rate control is also responsible for depreciation and imported inflation for the domestic economy and foreign investment outflows.

Nonetheless lower oil prices and cheap dollar have lowered inflation and depreciation and expectations, which have renewed interest in the economy by investors, both, domestic and foreign investors, evident in increased foreign exchange inflows and domestic investors may also follow if inflation and interest rate and expectations continue downward and remain stable at lower levels, which might extend the current trade cycle or expansion in the growth that started after 2014 during the current government owing to favourable food and fuel prices.       

    

Stable Interest rate and Exchange Rate and Inflation...

The Indian economy has been under pressure, on the monetary policy and interest rate fronts, despite low inflation, partly attributed to low food prices, but inflation expectations had been on the upside due to pick in fuel prices since March 18.

Nonetheless, they have been on a down trend after October which has considerably altered the expectations about inflation and chances of an accommodative central bank if inflation remains within the target in a world of low real interest rate that has affected the supply side in INDIA even in the face of less than full employment situation and when exports failed to increase inspite of depreciation in the exchange rate that has also contributed to inflation because of higher oil prices and foreign exchange price.

Recently, INDIA leaped unprecedently in the World Ease of Doing Business rating from 100^th to 77^th from last year which could mean a lot to international investors support by the demographic dividend and huge demand and supply conditions even though there is an outflow of foreign capital from the debt and equity markets in the country owing to inflation and depreciation and higher interest rate and expectations which could be averted through a prudent interest rate and foreign exchange rate management.

Nonetheless the RBI attempted to supply more dollars to rein in depreciation, but that deteriorated the rupee liquidity position that aggravated the outflows from the debt market when interest rate in the recent started hardening which negatively affected the bond prices and outflow of foreign capital further increasing the depreciation, all due to higher inflation and interest rate expectations. 

The exchange rate management is an important tool to control inflation through exchange rate targeting which could help achieve price stability when INDIA imports 80% of its oil needs and is a major source of inflation in the economy, notwithstanding lower inflation and interest rate could also help boost exports against depreciation that increases domestic inflation and lowers real incomes and demand and growth.

Moreover, higher interest rates could not let exports materialize, therefore a policy that aims to boost productivity and lowers inflation and interest rate and expectations might help increase competitiveness than just lowering exchange rate which increases domestic inflation and interest rate and expectations by increasing the price of imports, lower inflation could also increase real incomes and real exchange rate and demand, domestic, imports and exports and growth .

The one thing the government needs this time is a prudent foreign exchange rate management to wither the effect of higher oil prices and its effect on domestic inflation and interest rate and expectations which have given rise to higher interest rate and expectations...

Targeting a strong exchange rate to lower the effect of depreciation on higher oil prices could help improve domestic inflation and expectations and lower interest rate and expectations...   

Stability in the interest rate and exchange rate regimes and movements in narrow bands would also help stabilize domestic investment and expectations, and, foreign investment and expectations, the capital account, and exports, the current account...

The stable or neutral interest rate is to put the point that, both, too much tightening or loosening give rise to loosening or tightening later which are also self reinforcing means inflation would signal inflation expectations and higher interest rate and lower employment and supply further increasing inflation and would create unemployment and deflation would foster deflation expectations and lower interest rate expectations and increase employment and supply and lower prices, again, if the economy is below full employment.

Therefore, to promote stable growth it is important that interest rate and exchange rate remain stable within bands at full employment without creating inflation or deflation and expectations...

After full employment higher wages would itself control demand for labour and wage inflation through market, any attempt to increase cost of borrowing would further increase cost and inflation, in the short run...

The cost of capital is a major cost of production and supply, but the Central Banks fail to recognize it and do not include the price of capital in their inflation indices and forget that lower borrowing prices could also help to lower inflation when employment and demand are the problems...

When they increase the borrowing price they forget that they reduce both demand and supply or employment and investment which further increase price and interest rate and expectations, too...