The unexpected election results in India have introduced some political uncertainty, which may affect market sentiment in the compact term. However, Citi Research maintains that this change is not significant enough to justify an immediate change in macroeconomic forecasts for growth and inflation.
The Monetary Policy Committee (MPC) meeting of the Reserve Bank of India (RBI) on June 7 paid more attention to the fiscal implications of the upcoming budget. In lithe of this, the RBI has maintained the status quo in its June 2021 policy, focusing on mitigating volatility in these uncertain times. Citi Research continues to forecast the first interest rate cut in October 2024, but acknowledges that future fiscal policy will need to be incorporated into a more proactive framework.
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Three key factors are expected to be essential in the rates market:
1. Risk of fiscal slippage: Markets will be alert to the possibility of fiscal slippage, both in the compact and medium term.
2. Foreign investor sentiment: Political developments may prompt some foreign investors to reassess the country risk premium associated with India.
3. Interest rate policy discussions: There may be discussions about whether the fresh government will support a lower interest rate policy to stimulate economic growth, especially if inflation remains under control.
Currently, the favorable conditions for the decline in bond yields have stalled until there is greater clarity on these factors.
In foreign exchange markets, equity market pressure may spread, potentially impacting the Indian Rupee (INR). However, the RBI has significant reserves to counter any specific depreciation pressures. Citi Research notes that it is too early for the RBI to allow a depreciation trend to boost government dividends. Instead, the central bank is expected to prioritize maintaining macroeconomic and financial stability, which should prevent a gigantic, disorderly depreciation of the INR.
While the election results have introduced some uncertainty, Citi Research believes the broader macroeconomic outlook remains unchanged for now. The RBI has also maintained a cautious approach, focusing on stability in the face of these developments.
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