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Fed's moves, India's inflation & more... - Views on News from Equitymaster
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  • Mar 17, 2008

    Fed's moves, India's inflation & more...

    • The spectre of a US economic recession that can have serious after-effects on the global economy, fails to leave stock market investors across the world. This is seen from yet another day of weakness in markets in Hong Kong (down 5%), Japan (4%) and China (3%). The pressure on these markets has also been aided by the news of acquisition of the beleaguered investment bank, Bear Stearns, by its bigger rival, JP Morgan late last week. As reported on CNN's financial website, the latter would acquire the former in a deal valued at US$ 236 m or US$ 2 per share. The Federal Reserve would provide special financing to the deal, as it tries to avert a major financial crisis in the US banking space. The said buyout of Bear Stearns is aimed at 'averting a bankruptcy and a spreading crisis of confidence in the global financial system', the website reports.

      Asian markets have also been hit by news of the Fed cutting interest rate to make funds cheaper for the credit crunched banking system. In an unprecedented move, the US central bank yesterday lowered its primary credit rate (or discount rate#) from 3.5% to 3.25%. This step lowers the spread of the primary credit rate over the federal-funds rate to 0.25%. The Wall Street Journal expects "the Fed to follow up tomorrow with a cut in the federal-funds rate, charged on overnight loans between banks, of a half to a full percentage point from its current 3%." For the Fed, the bigger test will be how the markets greet the initiatives it has taken yesterday (discount rate cut) and is slated to take tomorrow (a possible cut in federal-funds rate) - with relief at the bold steps taken to shore up the financial system, or with alarm at how unstable the financial system had to be to invite such action. If the emerging markets current actions are to be viewed, it is an alarm that does not seem to stop ringing!

      # As per the Fed's website - "Discount rate is the interest rate charged to commercial banks and other depository institutions on loans they receive from their regional Federal Reserve Bank's lending facility - the discount window. Under this primary credit program, loans are extended for a very short term (usually overnight) to depository institutions in generally sound financial condition. The discount rate charged for primary credit (the primary credit rate) is set above the usual level of short-term market interest rates."

    • As for the Indian scenario, while Indian stock market continue to retreat (the BSE-Sensex closed over 1% down last week), the fact that inflation is again rearing its head is a sign of concern. As reported by the RBI, for the week ended March 14 2008, inflation (as measured by the wholesale price index or WPI) touched a nine-month high of 5% level (from 4.9% in the week earlier). This increase in inflation is led by rise in prices of primary articles (6% YoY rise in prices) and manufactured products (4.3%). As a matter of fact, inflation in primary articles has been mainly led by rise in prices of wheat and oilseeds. With the WPI inflation nearing the upper level of the RBI's target band of 5% to 5.5%, there might be pressure on the central bank to take note of the same and suggest some monetary adjustments so that the impact of rising prices is lowered on consumers. Further, with the crude oil prices touching US$ 110 per barrel, the pressure on domestic energy prices is also expected to increase, thus having the potential to increase inflation at a higher rate going forward.



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