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BW Businessworld

‘Inflation In India Has Been Relatively Flat’

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You wouldn't think of it as a cooperative bank, but Netherlands' Rabobank Group's beginnings were in the cooperative movement, and it still runs on cooperative principles. Sometime before the end of November, the bank will open its first branch in Mumbai (the Reserve Bank of India issued the license in April 2011). The group provides a range of financial services: from banking through asset management and insurance to real estate and leasing services. In the Netherlands and internationally, food and agribusinesses have been principal focus areas for them.

Rabobank has been around as a non-bank finance company (NBFC) - Rabo India Finance. Adrian Foster, Head of Financial Markets Research, Asia-Pacific for Rabobank International who was travelling through Mumbai - perhaps in preparation for the branch opening - sat with Businessworld's Tanushree Pillai and shared his views on a range of topics: from what we should expect from the RBI in the next couple of months and how the Eurozone needs to find a solution for its present crisis. Excerpts:

What are your projections for India's growth?
India has proven itself as a bit of a super-tanker, the analogy of turning around relatively slowly, when it sailed relatively comfortably through the global recession (2008). The positive is that it is a demand-driven economy while the negative is the fact that it's not quite that well-integrated with the global manufacturing chain and the global financial sector as well. You could view these things as weaknesses in normal times, but on the positive side, India did not participate much in the global volatility because of these very reasons. We look at the global environment now and clearly there are concerns, dangers and risks of a double-dip recession in the US. While we are worried about double-dip, we should certainly be concerned about third-quarter contraction. We have become too complacent with our performance story for the Asian region, including India, so if it has achieved about 8 per cent growth in the last couple of years, this year it could be a percentage lower. The disappointing global environment will be reflected in this region.

The RBI raised its repo rate for the 12th time since March 2010. What can we expect going forward?
The RBI has been more aggressive than I would have thought in the last couple of month; the inflation situation in India has actually been relatively flat. It is clearly high and worrying, but with oil prices likely to be lower in the next couple of months, and of course against the global backdrop with so much uncertainty, I would think the RBI has got the luxury of sitting back and assessing these global risks for a little bit longer before thinking about hiking rates again. The rationale for rate hikes will be much less convincing in the next couple of months.

Why do you think inflation will ease?
There are two main drivers of inflation: If you look at food prices, they peaked a couple of months ago. The pattern is that they certainly bounced sharply from their recessionary lows a couple of years ago, they are supported by robust demand regionally, but they have been relatively flat and bit off their peak for the last couple of months. As you go forward, the year-on-year changes in food prices roughly flatten out to about zero, so by the end of this year, the year-on-year change should be about zero.

The other one is oil prices, which peaked in April after the tension in Libya, have been lower since then, and projecting it at today's price, the year-on-year change will be zero by the end of this year. So we have clearly seen a readjustment.

Do you think gold has peaked out or will it continue to shine?
 I agree with the fundamental demand story. If you look at the competition between India and China on who is the major buyer of gold, they have changed places a couple of times and so the demand continues to support the price. If you look at the risks that are impacting markets and investor sentiment, equity market volatility, liquidity provided by central banks, these are areas from where gold will continue to find.

A lot is being said about Greece and its near-default status. What do you think is going to happen?
We think it probably is going to default. Its deficit levels are much bigger than what the world probably knew about. In a weak global environment and given the lackluster environment in its (Greece) neighborhood, it is difficult to get out of debt problems. The question is not whether it will default the question is when it will default. The debt of these countries (Eurozone) is held by the core banks, so supporting Greece will be the obvious choice for them. It is important for Europe to kick the can down the road which will buy more time, so beyond a certain point Greece's debt problems will be so much less systemic risk for the Eurozone.

Does that mean it already is a systemic risk?
 It definitely is. What we recognise as a peripheral debt crisis, is actually a core banking crisis in disguise, because these banks at Europe's core hold such large amounts of fiscal debt.

So what do you think can be done to stop this from spreading like a wildfire?
There is a lot of political opposition in that region to unify fiscal measures. The measures come in bits and pieces. The danger is the bigger decisions to solve this problem will probably be taken when there is massive amount of weakness and at that point there will in fact be a series of crises which will galvanise politicians to take measures and in about six months' time there will be integration in Europe. That's when everyone will be comfortable with Eurobonds, which will be backed by Eurozone and will provide a cheap source of funding.

How will the bonds help?
If you look at debt-GDP levels and budget deficit-GDP, the Eurozone is better than US. The problem with the Eurozone is, unlike the US where there is one fiscal authority and one central bank, it is not integrated in that sense. Europe has a lot of competing decision-makers, so there's no integrated response. The solution over time for these obligations (debt) will be Eurobonds. 

Do you think a central treasury or a fiscal authority is needed for Eurozone?
The issue with Europe is that everyone maintains their national identity. There is a lot of resentment over Germany supporting Greece and this issue of fiscal transfer has become a political hot potato. The only time we think Europe's politicians will be forced to break through these issues is when they will be standing at the precipice looking over a Eurozone breakup. It is primarily a political battle rather than a financial one.