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India Will Emerge As A Relative Value Post-Fed Hike: BofAML

As the continuing U.S. recovery is likely to revive export demand, India will emerge as a relative value, although markets may initially sell EMs before the first Fed rate hike, notes BofAML.

Indranil Sen Gupta and team at Bank of America Merrill Lynch in their May 20, 2015 India Economic Weekly report titled: “Year II: What to expect?” anticipates the GST Bill will be passed, although implementation may take until April 2017.

India relative value

The BofAML analysts they continue to believe India will emerge as relative value, although markets may initially pound EMs around first Fed rate hike. Offering three reasons to support their view, they point to a U.S. recovery that should revive export demand:

US recovery positive for India

Second, they believe Fed tightening will keep commodity prices in check. The team also believes increased risk appetite should step up capital flows to high-growth BRICs:

Step-up in capital inflows India

Against this backdrop of global uncertainty, Indranil Sen Gupta and team also note RBI would keep buying FX reserves to guard against contagion. They anticipate the RBI will likely continue to hold Rs 60-65/USD, through a possible 3-step FX policy viz.: (a) RBI to buy to recoup FX reserves, (b) RBI to likely offer token defense selling, (c) RBI’s full-scale FX intervention of about $15 billion to defend the INR.

Stability in INR India

What to anticipate in Year 2 of Modi government?

The BofAML analysts point out that the past year has actually borne out their view that the Indian growth cycle turns far more on the global growth cycle and lending rate cuts than policy emanating from Delhi. However, they disagree with the view that “nothing has changed on the ground” in India. Gupta and colleagues anticipate higher growth will push India’s GDP above Brazil and Russia:

India's growth India

Focusing on the second year of the Modi government, the analysts point out three macro themes should play out by May 2016. First, they believe recovery should be driven by lending rate cuts pushing up consumption demand rather than capex recovery.

Lending cuts to drive capex India

The team also anticipates RBI governor Rajan eill trim 75bp by April 2016, with CPI inflation set to meet RBI’s below-6% inflation mandate. Moreover, they anticipate RBI to likely cut rate 25 bp on June 2:

Anticipated rate cut India

Indranil Sen Gupta et al. also argue Delhi will likely continue to push the BJP’s electoral agenda including irrigation, attracting FDI in railway and defense, with implementation of the GST Bill possibly stretching to April 2017:

BJP Manifesto Vs Govt Action India

Finally, the analysts believe the RBI will continue to hold Rs 60-65/USD, with four swing factors in August – October viz.: 7th Pay Commission, Fed Hike, Earnings and Bihar polls. The BofAML analysts point out that an initial opinion pool has favored the Bihar chief minister Nitish Kumar and the assembly pools will likely influence the government’s reform agenda.