While the Fed now wants to arrive at a compromise between inflation and growth, the decision is easier said than done. It will have to walk on a tight rope for next few months amid geo-political escalations that could spiral inflation again and potential recession if the
high tax rate regime stays.
The federal reserve's outsized rate cut has cheered many but deep down there is a looming fear of recession, sowing doubts if it is too late now and that a lot of water has already flown under the bridge.
The world's largest central bank, while slashing key lending rate by 50 bps and bringing it in the range of 4.7 to 5 per cent, has also hinted in its September monetary policy that it would not mind further cuts this year. It was a first in four years and only 11th time in the last three decades that the Fed has announced a cut of 50 bps points. There is a view that it could come down by another 50
bps by 2024 end to 4.4 per cent and to 3.4 per cent by the end of 2025.
There are two more policy announcements in this year — one on November 7 and the next on December 18.
It is not a rocket science to understand that a cut of this nature with a couple more slated for this year, is much beyond making the lives of Americans, comfortable. It is because the impact of tightening is now showing, albeit with a lag effect.
The Fed now wants to arrive at a compromise between inflation and growth. This is a departure from its earlier stand which put price stability above growth and if Fed was to leave the rates unchanged for any longer, it could have created more problems.
Fed has cut rates by 25 bps on 39 occasions in 79 monetary policy announcements in last 34 years.
It is being said in certain sections that the sense of urgency could also be because of US elections in December and the government would not want unhappy voters.
The US elections will be the most watched event over the next two months and we can expect a closer fight between the Democrats and Republicans with the entry of Kamala Harris. Initially it looked like contender Donald Trump would walk away with the presidential
chair. While we do not know the situation on ground, media reports are giving Harris an edge over Trump.
Coming back to the US economy, the jury is still out as there is no clear visibility as to which way things would turn. The US has been very resilient proving the naysayers wrong, each time they predicted recession in the world's largest economy, including when the banking crisis followed.
While the Fed chief Jerome Powell claims the economy being in good shape, the urgency to cut rates so quickly creates doubts given that geo-political situations are now ballooning. The world is witnessing two major conflicts; the Russia-Ukraine war has reached a dead turn
and the Israel-Palestinian engagement is spreading through the Middle East, with the West taking sides gradually.
The memory of the Russia-Ukraine war (right after the Covid-19 pandemic and catalysing global inflation), is still fresh. Food and energy prices are most vulnerable and could reverse inflation control measure taken by countries, so far.
Economists like Mark Spitznagel have highlighted how the US economy could be in a state of compromise at this point. He has linked massive Fed rate cut to the incoming US recession.
In his view, the burden of these rate cuts could soon begin to trouble the US economy and even the outsized cuts could not undo the problems at hand.
Not just the US, China is another weak link. Its government has sprung into action to save the economy and is now giving stimulus. The dragon nation has been struggling following the real estate sector crisis led by the collapse of Evergrande Group in 2021.
The world now is a connected place like never before and the developments in two largest economies will have a spillover effect in emerging countries as well.
The Indian context
In the Indian context, things appear resilient for now but the country is facing headwinds too. Sectors like automobile, agriculture and information technology could face headwinds going forward.
All the aforementioned sectors are big employment generators.
September sales numbers were subdued for top car companies and the outlook isn’t looking great in the immediate term. Urban consumption which has been quite robust for more than a year now has been showing signs of cooling-off.
Gross Goods and Services Tax (GST) collections slumped to a 40-month low of 6.5 per cent in September. The revenues were lower by about 1 cent at Rs 1.73 lakh crore over August tally.
Seven states have recorded negative revenue growth. Manipur leads the pack with 33 per cent contraction while those in Gujarat were recorded flat. According to a media report, 10 states underperformed the national level of 6 per cent uptick in domestic revenues. These
include Telangana (1 per cent), Rajasthan (2 per cent), Uttar Pradesh (3 per cent), and Tamil Nadu, Maharashtra and West Bengal (5 per cent each). Poll-bound Haryana recorded the sharpest rise in revenues of 24 per cent, followed by Delhi where receipts grew 20 per cent.
IT is not in the best shape though rate cuts in the US have raised hopes for this sector. But back home in the US, technology companies are still cutting cost and laying-off people. A slowdown there would have a sure shot negative impact on Indian IT companies.
Urban consumption is slowing and rural was already not that great but the long festive season ahead of us, is giving confidence to the industry. The timing could not have been better as people may have been saving cash to splurge during this period.
What next?
Fed could go slow in the next two policies and cut rates by 25 bps, each, as it would not like to put too much money in the hands of people, too quickly as the war on inflation has been a difficult one. It will have to walk on a tight rope for next few months amid geo-political
escalations that could spiral inflation again and potential recession.
As for the Reserve Bank of India (RBI), it is highly unlikely that we would see a cut in the upcoming policy. Food inflation remains a challenge for the government and the RBI and in light of this we could see a status quo.
Governor Shaktikanta Das has said that the decision to do it or not would be on the merits and not a replication of what other central banks are doing.
But, India is sitting pretty as the general election is over and it has a settled government at the centre. Both the government and the RBI have worked closely in the past and with some deft manoeuvrings, we can get out of this.
