Your wealth is fundamentally linked to interest rates. In a world where interest rates are near-zero in developed countries, risks are likely to emerge from other things. It would be best if you connected the dots to understand the implication on your money.
Uncertainty of inflation
The Reserve Bank of India publishes minutes of the monetary policy committee meeting a few weeks after the meeting. It lays down in detail views of committee members. The term ‘inflation’ was mentioned 147 times during the committee meeting held earlier in August 2020. That is a significant jump from 77 times in the meeting held in May 2020 and 49 times in the meeting held in March 2020. It also highlights the prime concern of the committee and why interest rates were left untouched.
Chetan Ghate, a committee member and a professor of economics at the Indian Statistical Institute quotes a phrase called ‘inflation whipsaw’. Markus Brunnermeir coined it at US-based Princeton University. He thinks that is a better way of looking at the future inflation trend. The upside push for the inflation in the economy comes from rising costs of goods and services manufactured along with the RBI’s ‘accommodative monetary policy stance.
The RBI takes an accommodative stance to ensure that high-interest rates do not stall economic growth. But the risk to inflation remains from food supply shocks across the country. A lot of supply chain has got disrupted as a result of lockdowns in different parts of the country. The downside pressure on inflation is due to what he calls ‘the paradox of thrift’. He argues that consumers may be forced to save more due to lockdowns, and that could be a potential disinflationary force. He believes that the demand for goods and services could drop, leading to a fall in inflation.
When such a situation exists, we have a mixed trend in financial markets. Investors do not like uncertainty. The year so far has been the one when the risk has ruled like never before. It is unprecedented that the
Reserve Bank of India’s committee has not given any growth and inflation outlook in the monetary policy statement for three meetings in a row. That is perhaps a record.
Uncertainty of profits
In the quarter to June 2020, many large businesses refrained from giving any guidance on the future order book, citing uncertainty. We will look at one significant company example to understand the play of such a change in the market. Larsen and Toubro, the engineering conglomerate, skipped the ‘order book’ guidance for the first time in a decade. Investors look forward to the direction to understand the impact of future revenue and profit.
The company is witnessing a slowdown in the execution of orders. The management told investors after the quarterly results that it has not seen any major infrastructure project being cancelled. The company expects to benefit out of the government plan to the executive over Rs 100 lakh crore worth of infrastructure projects. Share prices move along with the profits of businesses. Any uncertainty ahead could lead to a negative trend in the stock market. However, investors could look at the Larsen & Toubro situation as both an opportunity and a risk. That is reflected in the price performance of the company. Over the past year, L&T shares have shed a quarter of the value. That is even after the recovery of 23 per cent over the past three months. That shows how badly the market beat down L&T shares at the start of the lockdown.
What it means to your money
If inflation concerns stay high, businesses will not get further relief in interest rates. Low-interest rates are needed to boost new expenditure by companies. The strange situation in the market where inflation faces upward and downward pressure at the same time means gold would continue to be used as a hedge by investors. The uncertainty has created a situation where stock prices and gold prices are going up at the same time. In addition to that, the extent of the impact of the lock-down on the economy is yet to unravel.