RBI policy, Rise in Yuan and Friedman's utopia

On most days our readers can argue with some justification that our comments are way too focused on happenings in the US. There is a reason for the same which we have detailed many a time. But not today, as the prime place will be taken by the domestic news where we follow the rate announcement by the RBI.

The new look MPC committee has come up with its assessment of the economic situation and its monetary response to the same. In line with the market expectations it has decided to pause on its rate cutting instinct keeping the repo rate unchanged. The overall tone of the statement was positive with the Governor emphasizing a three speed recovery for the economy. The RBI’s priority, he says, remains the orderly functioning of markets with ease of financing conditions ensuring provision of adequate system level as well as targeted liquidity. Inflation is expected to ease to its target 4% levels by Q4. GDP growth is also expected to see a rebound by the last quarter of FY. The important announcement was on OMO to the tune of 20k Cr INR, on tap TLTRO of 100k Cr INR for 3 years tenor, special OMOs in SDL etc. The bond markets have certainly liked what they heard as the benchmark 10 year bond yield eased by close to 8 bps on the announcement to trade at 5.94% currently.

In other news, the US stock markets remained upbeat with the Dow Jones closing up by 122 points. The positive mood is owing to the hopes that some breakthrough might happen on the stimulus talks even if partial. The positivity has even eclipsed the sober news on the job front where the initial jobless claims in the US have remained above expectation.

Other markets like the Hang Seng is also up by half a percentage, whereas the Chinese stock index Shanghai Composite is up close to 2% in the morning trade. The Chinese markets have opened after a long holiday and onshore Yuan was quoted at 6.72 with an appreciation of close to 1%. The relentless gains in the Chinese currency are an interesting development as the currency level represented one of the most prickly issue during the trade negotiations last year with the US side sometimes even threatening the Chinese side with a currency manipulator tag.

In an ideal world, with freely floating exchange rates, any exporting nation will see its currency appreciating as importers need to purchase its currency to pay for the import. In due course this will start making its export costlier, weaning away its competitive advantage. A natural equilibrium will emerge on the currency level and quantum of exports. In the real world though countries can employ multiple ways to keep the cost of exports down including cheap labour (wage caps), subsidies and last but not least by controlling the currency. The importing nation can counter this by employing tariffs thus making the landed cost higher. In a dated but influential book The World is Flat, the author Thomas Freidman conjures up a utopian world where there are no barriers on trade of goods and services and how it creates an equitable world. 15 years after its publishing and a GFC, Euro crisis, Brexit, Trump presidency and a global pandemic later we all are wise to see that the utopian dream is neither simple nor straight forward to achieve.