A $5-trillion economy will be possible only if government spends money on these sectors

The US 10-year treasury yields recently scaled 15-year highs amid hopes that interest rates will remain on the higher side for longer than initially anticipated. As a result, the 10-year US treasury yield jumped to as high as 4.35 per cent in the second half of August and it is hovering at around 4.20 per cent. The figures stood at 3.9 per cent on January 2, 2023. On the other hand, India 10-year government bond yield declined marginally to 7.34 per cent in January to 7.2 per cent at present. So, what do sharp rise in US treasury yield meant for Indian economy? And where rupee is headed? In an interaction with Business Today, Santosh Pandey, President and Head, Nuvama Professional Clients Group, shared his insights on Indian economy and how India will look at $5 trillion economy. Edited excerpts:

BT: What do soaring bond yields in the US indicate for India?

SP: The sustained rise in the bond yields in the developed markets usually makes assets offered in emerging market economies less attractive, leading to lower financial flows to these countries. The falloff in capital flows also puts pressure on countries’ exchange rates against the dollar. 10-Year bond yields in the US rose to the level last seen in 2007. While inflation in the US has moderated from the peak, rise in commodity prices, strong macro-economic fundamentals as well as hawkish comments from the Fed at the recent Jackson Hole Symposium largely dominated the ‘higher for longer’ interest rate narrative leading the yields to spike. The rise in US bond yields along with resurfacing of domestic inflation risk has somewhat already started impacting the capital flows in India, thereby putting some pressure on rupee. After infusing a staggering amount in Indian equities in the past three months, the pace of inflow from foreign investors ebbed in August with a net equity investment of around Rs 11,500 crore.

BT: The US Dollar index has climbed over 4 per cent from its 2023 low of 99.46, scaled on July 13. What does this increase mean for the Indian economy?

SP: Dollar picked up momentum after hitting 99.50 levels on the back of hawkish comments from the Fed and FOMC members. Along with that the inflation numbers were reported at 3.3 per cent which is still above the targeted rate of 2 per cent. Fed Chair Jerome Powell reiterated several times that interest rates will hover at higher levels for some more time and there is room for further rate hike, in last one month which surged the dollar towards 104 levels.

US two-year and 10-year yields soared to 5.10 per cent and 4.34 per cent respectively due to sudden shift of market expectations from dovish to hawkish on US future interest rate outlook taking cues from US economic data leading to dollar strengthening against basket of currency.

The rise in dollar index is on the anticipation that there can be a further rate hike this year which is currently at 5.50 per cent and can go up towards 5.75 per cent. The higher yields in the US can put pressure on incremental flows in to India and other emerging markets.

RBI is likely to maintain repo rate at 6.5 per cent and roll out monetary measure to curb the incremental rupee liquidity in the system however going ahead if inflation (7.4 per cent) continues to climb away from RBIs upper band of rate 6 per cent then RBI is likely to hike in interest rate which will lead to increase in the borrowing cost impacting the business activity as whole which is reasonably doing well for now.

BT: Okay, so where do you see the Indian rupee by the end of 2023?

SP: Longer than expected higher interest rates globally coupled with ambiguity of central bank future interest rate decision can possibly lead to sustained volatility and possible dollar dominance across the board which will drive the other currencies.

Slowdown in China has weakened its currency by 10 per cent in the first eight months of the year. Simple statistics illustrate the magnitude of the impact on China’s economy: only 1 per cent of China’s economic growth drives 0.3 per cent of global economic growth. This can have serious impact if China fails to show signs of resilience.

Technically, rupee against dollar has broken the range in which it was consolidating in past 10 months. Once the level of 83.40 is taken out then there is high probability that the pair will move in a range of 83.50-84.00 levels by the end of 2023.

BT: How do you see India’s economic growth going ahead?

SP: The way government is focussed on capex along with giving conducive environment for private capex, I see phenomenal growth in India across categories. If we are talking about $5 trillion, India would look very different from current India. We would be the fourth largest economy in the world with a reasonable size in global term. We will continue be the fastest growing country in the world.

BT: During the UPA government from FY04 to FY14, expenditure on subsidies increased by more than 5 times, while expenditure on capex increased by 72 per cent. On the other hand, subsidies under the NDA government increased by nearly 60 per cent, while capex grew more than 5 times. What does this mean for economy?

SP: Investing in capex is the only long-term solution for uplifting of the economy, for any country. Government investing in infra leads to job creation, asset (roads, ports, railways, defence) creation which in turn would lead to huge investment from the FII’s, FDI’s. Subsequently private capex also joins the entire eco system and further steers the economy. The talk of $5 trillion economy will be possible only if government spends money in infrastructure and manufacturing which this government is supporting in best way.

BT: Which sectors do you think are benefitting from rising capex?

SP: Capex is an interesting theme—government is doing huge capex on roads, ports and encouraging many private players to start investing in these sectors. Many private investors in the form of P/E, AIF’s are also looking for these assets which would be very positive for the sector.

Manufacturing is another interesting bet. Schemes like PLI by the government and in turn expenditure done by the corporates would allow lot of investment in the sector. Many global companies want to invest in India. Recently we have seen Foxxcon invested in India and recently semiconductors companies investing in India.

This is also the best time to invest in banking sector. We are at the lowest levels in terms of NPA, NIMs are strong, credit growth is good. In fact, many banks were upgraded this week by the S&P which shows the strength in the business and balance sheet of these banks. Real Estate , hotels and select midcap stocks are also looking interesting. However, choosing the right stock is utmost important as returns can be exceptional.

BT: What are high-frequency indicators reflecting about the economy?

SP: Most other high-frequency services-oriented indicators, especially in the transport/logistics side, continue to show traction in growth terms. Services growth continues to lead domestic economic recovery. July 2023 services PMI rose to a high of 62.3 from 58.5 in June, signalling the sharpest increase in output since June, attributable to strength in demand and new businesses. Business and consumer sentiment continues to improve incrementally. Additionally, adjusted for inflation, real bank credit growth is currently running at its highest levels in the last 10-years. Ebbing of twin balance sheet concerns has boosted credit appetite along with the post pandemic economic recovery. This should help support a private sector capex upcycle.

Also read: Stocks that share market analysts recommended on September 4, 2023: Hero MotoCorp, State Bank of India (SBI), BHEL and Star Health