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'Lack of policy moves fuelled inflation'

April 09, 2008 12:50 IST

Ajay Bagga, CEO, Lotus India Mutual Fund, feels the government should have taken timely action to control inflation. Excerpts from an interview with Palak Shah:

What is your medium-term outlook of equity markets in India? Could your share your views on the current state of the domestic economy?

The recent fall is not a bull-market correction but a serious downturn that could last for about six to eight months. It's clearly a changed market; no new investors are entering. This trend has been seen during corrections in the past.

The recent directive by the Institute of Chartered Accountants of India (ICAI) requiring companies to provide for losses arising from measurement of derivatives at market value has added to the turmoil.

Economic fundamentals have started weakening. Lack of policy initiatives by the government has fuelled inflation, increased cost of imports, and resulted in sluggish manufacturing and agricultural growth.

The Reserve Bank of India has achieved a credit growth rate of only 21 percent this financial year against their target of 24 percent. The overall investor sentiment is negative as of today.

You expect a further fall from here?

It is difficult to call a bottom at these levels as benchmarks are making new lower tops. Moreover, this correction is the longest one since the bull-run started about four years ago. With the elections around the corner, the government is under pressure to contain prices. Tightening of policy will not favour growth.

However, one of the biggest positive factors for markets is that the insurance sector has shown over a 100 percent growth since last year. It is likely that nearly Rs 40,000 crore (Rs 400 billion) investment could come from insurance players alone.

Also, the $350-billion domestic household savings figure is a positive factor. Even if the economy grows by only seven percent, it is still good given the current global circumstances.

Does tightening of policy mean that interest rates will not be lowered?

It's a desperate situation as fund-raising opportunities for corporates are narrowing due to the global credit crunch. In the late 1990s, the economy almost went into recession as interest rates were raised too fast and project costs for companies kept shooting up.

However, the government cannot afford to keep interest rates this high. It is likely to cut rates once the inflation moderates. Meanwhile, the rupee will be allowed to appreciate to compensate for the rise in global commodity prices.

Is it true that the global credit turmoil is beginning to end?

It is likely that the US Federal Reserve could cut rates by another 25 basis points, to 1.75 per cent on April 30. The global write-downs may scale up to $400-$600 billion in a year's time. Even if the crisis is beginning to end, it may not happen in a fortnight.

Isn't it true that past economic crises have often been beneficial for a few top banks in the West?

The top 10-20 banks control the world economic scenario; financial markets often react to their actions. The collapse of any major financial institution presents an acquisition opportunity for them.

Have domestic mutual funds witnessed any major redemption?

The inflow of capital into mutual funds has slowed down. In January this year, the domestic mutual fund industry witnessed an inflow of Rs 16,000 crore (Rs 160 billion). This fell by Rs 4000-6000 crore (Rs 40-60 billion) in February and March.

Though, the inflow could remain weak in the coming months, there seems to be no serious redemption pressure on fund houses. In fact, the mutual fund industry has grown by Rs 2,00,000 crore (Rs 2 trillion) and it will grow more swiftly once investors regain confidence in the stock market.

Palak Shah in Mumbai