Currency Updates ( for 5 July 2022)
§ System liquidity surplus to improve this week. The system liquidity surplus (adjusted for CRR build-up) came marginally higher than our expectations led by improved government spending. On a WoW basis, the average liquidity surplus last week increased to Rs2.53 tn from Rs2.08 tn surplus in the previous week. The weighted average overnight money market remained flat from the previous week at 4.72% but ended the week at 4.79%, 4 bps higher from the previous week’s closing. The outstanding VRRR increased to Rs2.59 tn from Rs1.99 tn a week ago and the amount held under the SDF increased to Rs1.5 tn (from Rs1.33 tn a week ago). We expect the system liquidity surplus to improve further this week as the spill-over of month-end government spending and coupon/redemptions outweigh the outflows from auction, excise duty and currency leakage.
§ Government cash balances remain firm. Expectedly, the GST collections helped the general government cash balances increase to ~Rs 4tn as on June 24, 2022 compared to Rs 3.4tn in the week earlier, while few states continued the WMA trends (Rs 86bn compared to 79bn as on Jun 17, 2022). The T-Bill outstanding with the States increased marginally to ~Rs 2.9tn as on June 24, 2022 (compared to Rs 2.8tn in the previous week) suggesting higher balances of the Centre. Given the movement in liquidity numbers we expect the government’s cash balances to have moderated to ~Rs 3.3tn last week amidst month-end government spending. Going into this week, we expect the general government cash balances to moderate further marginally around Rs 3tn.
§ CIC trends. CIC for the week ending June 24, 2022 decreased by ~Rs93 bn to Rs 32.2 tn. The current CIC outstanding is 13.6% of the FY2022 nominal GDP.
§ Bond markets get brief respite. The bond markets started the week on a negative tone led by surging crude oil prices and UST yields as markets evaluated the tightness in the oil market and the reinforcement by key Central Banks on the need for aggressive rate hikes. However, mixed economic data worldwide and resurgence of covid cases in China has been increasing the concerns of hard landing providing some comfort to the bond markets in the latter part of the week. The 10-yr UST yield eased nearly 37bps from the early week’s high of 3.25% to end around 2.88%. Crude oil prices also eased by nearly 7% from the early week’s high of US$120/bbl. Domestically, the biggest risk looming for the bond markets was the extra supply concerns. The recent duty hikes on crude and petroleum products (if maintained through the year) have helped minimize that risks. The 10-year yield is trading nearly 10bps lower from last week’s high of 7.48%. We see some respite for the bond markets in the near term, with the 10-year yield (6.54% GS 2032) trading around 7.30-7.45% range. We continue to monitor the crude oil price trends closely where supply continues to dominate over the demand for now.
Government measures on fuel to help ease centre’s finances. The levy of cess/duty on production of petroleum crude, and exports of petrol, diesel, and ATF will help boost the central government’s finances and offset losses from excise duty cuts on petrol and diesel. A cess of Rs23,250/ton has been levied on domestic crude production. Rs6/litre and Rs13/litre on petrol and diesel exports, respectively, and Rs6/litre on ATF export has also been levied. If the levy continues for the rest of FY2023E, the government could garner close to Rs1.3 tn (Rs660 bn each from the cess on petroleum crude production and exports of petrol, diesel, and ATF). Assuming these measures would continue for the rest of FY2023E, we estimate tax windfall of ~Rs 990bn, offsetting the earlier excise duty cut-related shortfall. Accordingly, we revise down our FY2023E GFD/GDP to 6.5% (from 6.8% earlier). Without any expenditure cuts, the committed higher subsidy bill will continue to lead to ~Rs 1tn of fiscal slippage but that need not feed into higher dated borrowings (higher fiscal deficit could be financed through T-bills and small saving collections).
INR remains under pressure. INR continues to be weighed down by the unrelentingly high crude oil prices despite concerns of economic slowdown along with heavy capital outflows as global central banks continue to step up the hawkish rhetoric. Despite moderation in crude oil prices and UST yields in the latter part of the week, the pressure on INR persisted as exporters remain at bay while importer hedging picks up pace. INR hit a fresh low of 79.10 last Friday, plunging 5.8% so far this year. While RBI is expected to continue to curb volatility, overall trends in INR will remain a function of crude oil price trends and rescaling scope of global monetary policy tightness due to increasing recessionary concerns. INR has opened on a positive note today on aided by the fiscal response to managing the widening current account and fiscal deficits. Given the continued uncertainty we expect USDINR will trade in the 78.75-79.50 range in the near term.
Central Banks reiterate commitment to tame inflation. In the ECB annual meeting last week, ECB President Christine Lagarde played down concerns of a recession in the Eurozone (EZ), and assured on being prepared to raise interest rates faster if required. Her statements come at a time of slowing growth in the region amid a worsening energy crisis. She also stated that while the ECB has revised down growth rates for the next two years, they still expect positive growth rates due to domestic buffers against the loss of growth momentum. However, concerns on high level of debt in the EZ, especially in Italy and the risk of fragmentation continues to weigh on sentiments. Fed Chairman Jerome Powell stated that the challenge to growth was the persistently high inflation and not the faster pace of interest rate hikes. On the other hand, Bank of England (BoE) governor, Andrew Bailey, stated that the BoE need not act forcefully to bring inflation under control amid signs of an economic slowdown.
A perspective note on rupee from the Currency Desk of Emkay Global Financial Services.
SPOT USDINR pair continued to erase its recent losses as the pair has recovered from its mid January lows of 73.76 levels. The pair hit a high of 74.72 levels this week. Investors are worried about inflation and are expecting tighter U.S. monetary policy in the US Federal Reserve meet scheduled for the next week. The U.S. Treasury yields also hit fresh two-year highs. Meanwhile tensions continued to mount between the U.S. and Russia as the white house said that if Russia moves its military troops into Ukraine, that it will be considered an invasion and U.S. will respond accordingly. The U.S. also warned of strong economic sanctions on Russia if the situation escalates. Brent crude oil prices rallying to hit a 52-week high of 89.46$ this week also kept the Rupee under pressure. Strength above 74.65 levels on the SPOT USDINR pair will open targets of 75/75.25 levels. Areas between 74.30—74.25 are crucial support below which the pair will see a sharp reversal towards 73.76 again.
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