Below is an edited transcript of the analysis on CNBC-TV18.
Q: The rupee is at a two-month low today and the dollar costs Rs 55.25. At this point in time, are you expecting any more weakness in the rupee in the next two-to-three months?
A: The near-term certainly is full of challenges and because of the fiscal cliff there is a lot of global uncertainty. So the global risk appetite is not particularly strong and on top of that in India, although there has been some progress in carrying out reforms, the current account financing needs are quite large.
This has made the economy very susceptible to global risk sentiment and financial flows and it is unclear that in the next couple of months there will be a significant positive change.
Though there are expectations of some progress on reforms in this winter session of Parliament, the outlook is still a bit uncertain.
Q: So what do you think should happen for the rupee to appreciate a bit? The government is trying to do all it can in terms of releasing limits in order to let the rupee appreciate. Do you think, aside of reforms, there are any other measures that the government could undertake so the rupee can appreciate from these levels?
A: It would be nice if there is legislation, such as the FDI-related legislation, are approved by Parliament as it would be a catalyst for more long-term FDI and that would definitely be positive.
Oil prices staying benign or receding would also go a long way as that will also help reduce some of the pressure on the current account. The government could also initiate more measures to reduce some of the fuel subsidies to reduce the pressure on oil imports.
The other measure that is not really dependent on Parliamentary approval is the establishment of the National Investment Board. Overall, anything that is perceived by the market to be accelerating the ability of India to attract capital inflows will have a positive effect.
Q: Will a combination of concerns on early elections and an increase in the fiscal deficit raise fears of a rating downgrade?
A: I think there is a risk. First of all, the global backdrop is already a little bit uncertain and the fiscal cliff, in itself, is a deterrent to risk appetite which obviously India would need in order to attract capital inflows.
And add to that, India has a lot of domestic policy challenges as well and rating agencies are going to be very sensitive to the fiscal policy announcement in February.
I think there is a lot of pressure that the government will try to announce a Budget deficit that signals consolidation. But more importantly we need credibility of the underlying assumptions with a fiscal policy for rating agencies to feel comfortable.
And I do think that although the latest round of reforms have delayed the rating downgrade or the risk on the ratings for now, I don't think it has necessarily precluded the possibility that Indian will still get a downgrade. But if India doesn't have a credible fiscal policy for the next fiscal year, there is an increased possibility of a downgrade.
Q: Do you think flows could be restricted with the rupee at 55 which could lead to a negative spiral? What are the levels you think will be a strong support on the downside?
A: I think right now, India is still under pressure. In our forex outlook, we do not expect a lot of weakness because we are looking forward to a huge blow-up in the trade deficit or current account deficit. So we are hoping some of the widening that we have seen will hopefully reverse, gradually. But the problem is that it could still weaken. I think the risk sentiment is just not conducive for financial flows.
Q: You have mentioned the global risk-off and the fiscal cliff several times. Do you still think that meeting those deficit levels would be postponed and how would the markets react if it was postponed by three or six months?
A: I think maybe six months might be a bit longer than what people expect. I think the consensus is that a deal will not be reached by the end of the year and it will spill over to next year. But hopefully by Q1, there should be some clarification and resolution. If it takes anything longer than that, obviously the markets will be more disappointed and jittery. Having said that, some of the recent data from the US like that on housing stocks was surprisingly strong.
So people were worried that events like Hurricane Sandy and fiscal cliff would set back economic activity, but the data has not been that bad yet. So, it remains to be seen how things pan out. It is hard for me to envision companies in the US making big investment decisions given such a huge element of uncertainty in the next couple of months. The consensus right now is for a deal sometime early next year. Anything beyond that is going to be a disappointment.
Q: Do you the market could underperform after factoring-in the low expectations from the Winter Session or would the market mimic the euro-dollar?
A: I think some of the fiscal slippage in India has already or should be priced in already. It is not a surprise given the fiscal performance in this fiscal year. So I think it should already be to a certain extent, priced in.
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