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BRICs Fastest Inflation Accelerating Puts Subbarao on Hold: India Credit

March 12, 2012

Duvvuri Subbarao, governor of the Reserve Bank of India (RBI). Photographer: Joshua Roberts/Bloomberg

Duvvuri Subbarao, governor of the Reserve Bank of India (RBI). Photographer: Joshua Roberts/Bloomberg

Indian inflation, the fastest among the biggest emerging markets, is poised to accelerate as oil costs rise for a nation that depends on imports for 80 percent of its energy requirements, interest-rate swaps show.

The cost of locking in rates for five years rose to 7.49 percent in Mumbai on March 9, the highest in almost five months, according to data compiled by Bloomberg. Wholesale prices rose 6.7 percent last month after increasing 6.55 percent in January, according to the median forecast of economists in a Bloomberg survey before data due on March 14. That would compare with levels of 6.2 percent in Brazil, 3.2 percent in China and 3.7 percent in Russia.

Reserve Bank of India Governor Duvvuri Subbarao on March 9 unexpectedly slashed the amount of deposits lenders need to set aside as reserves to ease a cash squeeze in the banking system. He will refrain from lowering borrowing costs at this week’s policy meeting, a separate survey showed, as this year’s 16.8 percent rise in Brent threatens to fuel inflation in a nation where 80 percent of the population lives on less than $2 a day.

“Oil prices are becoming a big concern and will aggravate inflation,” Killol Pandya, the Mumbai-based head of fixed- income investment at the local unit of Daiwa Asset Management Co. that oversees $225 million, said in an interview on March 9. “A rate cut is unlikely to happen this month.”

He predicts the yield on 10-year government bonds will range from 8.20 percent to 8.40 percent this month.

Election Losses

The Reserve Bank will leave the benchmark repurchase rate unchanged at 8.5 percent on March 15, according to all 11 economists in the Bloomberg survey. The monetary authority cut the lenders’ reserve requirements by 75 basis points, or 0.75 percentage point, to 4.75 percent, it said in an e-mailed statement on March 9. The move was the first such action outside a policy meeting since July 2010 and will add 480 billion rupees ($9.6 billion) into lenders, it said.

Crude imports in the first 10 months of the current financial year totaled $115.1 billion, 15 percent higher than the bill for the whole of the previous fiscal year, according to oil-ministry data. Brent oil, the benchmark that India uses, rose as much as 0.4 percent to $125.98 per barrel on March 9, before falling to $125.38 today. Fuel and power together have a weighting of almost 15 percent in the wholesale-price index.

Millions of government employees went on strike on Feb. 28 to protest against spiraling costs. Prime Minister Manmohan Singh’s ruling Congress party was routed in state elections held last week, underscoring how the government is struggling to escape blame for inflation. Onion prices, a principal ingredient in Indian cuisine, doubled last year.

Comfort Zone

The central bank said in December that “from this point on, monetary-policy actions are likely to reverse the cycle” after inflation slowed to less than 9 percent for the first time in a year. Now, the Reserve Bank will rethink that strategy, according to Credit Agricole CIB, a unit of France’s second- largest bank by assets.

“Inflation, after falling quite rapidly, has stabilized at a level that is higher than the central bank’s comfort zone of 4 percent to 6 percent,” Dariusz Kowalczyk, a Hong Kong-based strategist at Credit Agricole, said in an interview on March 9.

He predicts the Reserve Bank will cut the repurchase rate by 75 basis points this year, compared with his previous forecast of 100 basis points.

The fixed rate needed to receive floating payments for five years using interest-rate swaps has climbed five basis points this month and 37 basis points this year.

The yield on the benchmark 8.79 percent notes due November 2021 rose six basis points to 8.29 percent last week. The rate has climbed from a nine-month low of 8.13 percent touched on Feb. 2, trimming this year’s drop to 28 basis points.

Growth Concern

The rise in yields is widening the difference between the debt securities and similar-maturity U.S. Treasuries. The yield premium was 627 basis points today, compared with this year’s low of 611 basis points touched on Feb. 21.

India’s benchmark Sensitive Index (SENSEX) of shares has dropped 0.7 percent this month on concern Asia’s third-biggest economy is slowing. Fourteen out of 30, or 47 percent, of companies in the Sensex reported net income for the three months through December that trailed analyst estimates, compared with 40 percent in the quarter earlier. Gross domestic product rose 6.1 percent in the three months through December, the seventh consecutive quarter in which expansion cooled, government data showed on Feb. 29.

“Growth below 7 percent is sufficient to trigger a cut in interest rates in March in view of the recent drop in inflation,” Robert Prior-Wandesforde, a Singapore-based economist at Credit Suisse Group AG. “We are more confident of that view now and expect the RBI to cut the repo rate by 175 basis points between March and January.”

Bond Risk

The rupee declined 0.2 percent today to 49.9650 per dollar. The currency has retreated 1.9 percent this month, the worst performance among Asia’s 11 most-traded currencies.

Rupee-denominated notes returned 2.1 percent this year, trailing Indonesian debt and Philippine securities among Asian markets monitored by HSBC Holdings Plc. Rupiah bonds earned 3 percent, the most in the region.

India’s bond risk is climbing on concern Finance Minister Pranab Mukherjee will outline plans to increase subsidies to curb inflation when he unveils the federal budget on March 16.

Credit-default swaps on State Bank of India, which some investors consider a proxy for the sovereign, snapped a four-day gain on March 9, according to CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in privately negotiated markets. The cost has surged 19 basis points this month to 319. The swaps pay face value should a company fail to adhere to its agreements.

The government’s expenditure on subsidies will spiral to 1.9 trillion rupees ($38 billion) in the fiscal year ending March, 36 percent more than an estimate Mukherjee made in February last year, according to Deutsche Bank AG.

“The RBI will be worried about the impact of the surge in oil prices on inflation and subsidies,” Amol Agrawal, a Mumbai- based economist at STCI Primary Dealer Ltd., said in an interview on March 9. “The central bank may have to wait till April to cut rates.”

To contact the reporter on this story: Kartik Goyal in New Delhi at

To contact the editor responsible for this story: Stephanie Phang at Sandy Hendry at

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