Inflation: Banks to feel the heat

Inflation: Banks to feel the heat
Business Standard, December 16, 2009, Section II, Page 1

Vishal Chhabria & Sunaina Vasudev / Mumbai

Credit-dependent sectors such as real estate and automobiles may also be hit by a rise in interest rates.

Rising food prices pushed the annual inflation rate for November 2009 to 4.78 per cent compared with 1.34 per cent in September 2009. This, coupled with robust industrial production and a relatively hawkish Reserve Bank of India (RBI) indicating a calibrated exit from its accommodative monetary policy, has led to expectations of policy tightening soon.

However, RBI has also indicated its concern over the impact of a premature exit on growth. So, the timing and extent of the tightening are key to gauging the impact on interest-rate sensitive sectors such as banks, real estate, cement and auto.

Most analysts feel that RBI is unlikely to take any dramatic step given that the credit off-take is slow (10 per cent as of November 2009 and 5 per cent year-to-date). Equity has been relatively easy to raise and several entities have used the route to boost balance-sheets. Lower expenses and cost-cutting have driven operational performance without significant top-line growth. And, working capital needs have largely been funded by debt, given low short-term rates backed by liquidity.

The rise in the inflation rate is seen mainly due to supply-side pressures and therefore the impact of the monetary policy is limited. The sense is that while a token 50-basis-point cash reserve ratio (CRR) rise is imminent, interest rates will not be increased soon. Monetary tightening will reduce liquidity and money market rates will harden. With input costs also increasing and growth optimism returning, credit off-take may increase.

Some banks have slashed home loan rates by 50-75 basis points, besides pushing auto loans aggressively. Analysts expect that banks have a margin cushion given the recent re-pricing of high-cost deposits. Going ahead, if monetary policy hardening increases cost of funds, it may impact margins. This aggressive push (lower interest rates) is unlikely to be impacted by the expected CRR rise, feel analysts.

Markets, however, have been spooked by the spectre of higher inflation and the possibility of monetary hardening. The Sensex dipped 1.3 per cent after announcement of inflation numbers. Interest rate-sensitive sectors led the fall — BSE Bankex was down 3 per cent, auto index was down 2 per cent and BSE iealty index was down 1.2 per cent. Overall, banking will be the principal sector to feel the heat of the tightening, which will then flow to other credit-dependent sectors such as real estate and auto.