The Reserve Bank of India has accorded top priority to douse inflation in the economy by increasing repo rates by 50 basis points to 7.5% which would increase the borrowing costs for industry that is already suffering from increased raw material costs.
The Confederation of Indian Industyr (CII) is concerned that rising interest rates will now begin to have a dampening impact on investment sentiment. “Industry is already reeling under the impact of rising raw material costs and an increase in interest costs will be an added burden”, said Mr. Muthuraman, President, CII. CII has been recommending that the RBI moderate its interest rate hikes, as it will increase the operating cost of companies and will make businesses postpone their investment plans. A decline in investments would be a serious blow to the growth of the economy.
Federation of Indian Chambers of Commerce and Industry (FICCI) have a point when they say that capacity additions in industry are critical for economic growth and this wouldn’t happen if borrowing costs and raw mateiral costs are high. “Capacity additions and investments in the industrial, particularly capital goods sector, are critically needed to maintain the industrial growth rate and these are beginning to be impacted both by the higher cost of capital and a degree of uncertainty now visible in the investment environment,” accoridng to Dr Rajiv Kumar, Director General of FICCI. The two areas of great concern to us are moderation in the growth of mining sector over the last few months and also the continuous negative growth of the capital goods sector for three months” said Dr Kumar. FICCI noted that increased commodity and raw material prices are also affecting the bottom lines of the manufacturers.
Meanwhile, a paper titled ‘Should Monetary Policy in India respond to Movements in Asset Prices? by Bhupal Singh and Sitikantha Pattanaik has pointed out that monetary policy should not be used as tool to address stabilisation of asset price cycles. “..since higher interest rates seem to cause contraction in output, credit demand as well as asset prices, the impact on asset prices alone should not be viewed as a good enough reason to use monetary policy for stabilising asset price cycles. Further, any policy that aims at limiting the overall pace of credit growth may have to be driven by developments, such as, either economic overheating or persistent high inflation, but not the perception of an asset price bubble
The expections of the manufacturing sector in India have dipped for q4, 2010-11 compared to previous quarters, according to a survey by FICCI with 60% respondents reported that they expect higher growth in their sector for Q-4 vis-à-vis Q-4 2009-10. This is a significant fall with regard to previous two quarters in which around 68% (Q-3) and 71% (Q-2) respondents felt that they were expecting higher growth in their sectors. Around 77% respondents feel that the growth in the manufacturing sector is going to moderate for Q-4. While a number of factors are constraining the growth of manufacturing sector, but most important being the rise in the cost of capital due to monetary tightening measures of RBI. FICCI has pointed out that sectors that are adversely imapacted the most are automotive, cement and tyres.
Textiles and steel are the sectors that face problems in capacity addition while moderate capacity addition is forecasted for Automotive, Capital Goods, Machine Tools, Leather, Chemicals, Cement, Paper and Forging.
Industrial metals have seen the worst slump in the global futures with copper expected to fall to $8000 per tonne in London Metal Exchange while June contract at Multi-Commodity Exchange of India has already fallen 3.35% on week to close at Rs 401.95 on Thursday. At LME copper prices have fallent to the lowest level since December at $8820 while at New York Mercantile Exchange, copper nosedived below $4.
It looks certain that base metals may not get any support from the industry side for the near to short- term given the weakening outlook for the manufacturing industry. China monetary tightening and global inflationary concerns have already pinned down the prospects of base metals in global futures markets.