BofA, Morgan Stanley cut GDP outlook over notes ban

Bank of America Merrill Lynch on Monday trimmed India’s economic growth estimates by 30 basis points to 7.1 per cent for the current fiscal as demonetisation of Rs 500 and Rs 1,000 notes is expected to hurt activity in December.

Besides, the global financial services major has lowered its GDP number by 30 bps to 7.3 per cent for the next fiscal (2017-18).

Global financial services giant Morgan Stanley has also downgraded its GDP growth forecast for the current fiscal to 7.3 per cent from the earlier 7.7 per cent as the government's move to cancel old high-value notes is expected to adversely impact the near-term economic activity.

Morgan Stanley has also lowered the growth projection for 2017-18 to 7.7 per cent, from 7.8 per cent, pegging it at 7.9 per cent for 2018-19.

Earlier, BofA had estimated India’s GDP growth at 7.4 per cent for 2016-17 and 7.6 per cent for 2017-18.

At the same time, BofA said the Reserve Bank would cut rates by 25 basis points in the upcoming policy review on December 7, as the "conversion of black money into deposits allow banks to cut lending rates even in October-March busy industrial season".

BofA said it is relieved to hear RBI governor Urjit Patel's comments that the banking regulator will review the CRR (cash reserve ratio) hike as soon as the government issues an adequate quantum of MSS (Market Stabilisation Scheme) bonds.

However, it noted that as CRR does not pay interest, banks would find it difficult to cut lending rates even if the RBI cuts lending rates by 25 bps in December.

"With RBI now set to shift from CRR hikes to the standard mix of reverse repos, T-Bills, Cash Management Bills and MSS bonds, that all pay interest, we continue to expect banks to cut lending rates (by 75 bps by September 2017) that holds the key to recovery," it added.

Over the weekend, RBI had asked banks to set aside 100 per cent of the deposits between September 16 (weeks before the end of the income disclosure scheme) and November 11 (three days after the currency delegalisation was announced) as incremental cash reserve ratio balance with it.

In an exclusive interview to PTI, Patel had said that RBI has announced an incremental CRR of 100 per cent "because of the large increase in deposits of banks on account of the return of Rs 1,000 and Rs 500 notes" and the decision would be reviewed immediately once the government issues adequate quantum of MSS bonds which they have promised to do.

Morgan Stanley said in a note: "Though the overall growth story remains on track, the government's recent decision to replace high-value currency is expected to affect near-term economic activity, thus leading to a slower pace of growth recovery."

"As economic activity normalises after first quarter of 2017 and demand for private capex kicks in, we expect a more balanced growth recovery in 2018."

According to Morgan Stanley, the growth is likely to get back on the recovery path from the second quarter next year, with support from consumption and exports.

"The economy will be firing on all engines with private capex taking off from 2018," it said. It noted that demonetisation will affect domestic demand on account of disruption in cash transactions until the end of December.

Moreover, the government's clampdown on black money will potentially make households hold back spending on big-ticket items in the near term and property spending in the medium term.

However, the report noted that external demand has begun to turn around over the last four months, with gains led by non-commodity exports.

"As global growth accelerates to 3.4 per cent in 2017 from 3 per cent in 2016, we expect India's exports to support overall recovery in 2017 after being a drag in 2016," it said.

According to Morgan Stanley, private capex growth is likely to be weak in 2017 while the government continues to push public capex in infrastructure.

"Private capex recovery will be held back for one more year (2017) in view of low industry capacity utilisation, plus the weak balance heets of Sate-owned banks and select industrial sectors," the report said.

It also noted that the government will maintain fiscal discipline and continue its efforts to revive private capex and productivity-enhancing policy reforms. 

Photograph: Krishnendu Halder/Reuters.