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Cable noise adds to global FX disorder

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Madhavi Arora

Lead – Economist

26 Sep 2022

Massive sell-off in UK markets since last Friday’s mini budget reflects the erosion of policy credibility, and the fiscal end game. With the fiscal and monetary stance at loggerheads, the BoE might front-load outsized hikes to counter demand.

The GBP free-fall and massive FX vols have only added another complicated layer to DM FX order, adding credence to our long stated view that dollar dominance is here to stay even as we are unlikely to see US growth upgrades in this downcycle.

US exceptionalism rub-off has finally let the INR loose, despite RBI's active FX intervention - - an indication of the impending range shift. INR readjustment has been swift, and the RBI will eventually need to let the exchange rate adjust to these new realities and act as a natural macro stabiliser, albeit orderly

The direct macroeconomic impact of UK shocks on India will be limited via the trade impact, but global risk will likely weigh on India in the near term. GBP weakness may aid Tata Motors on the UK operational front, albeit this will be countered by near-term MTM losses on its USDdenominated debt. In large-cap ITeS, TCS and Wipro lead in terms of GBP exposure.


Where’s the money, honey? The UK markets are making some eye-popping moves. A massive unfunded fiscal easing via tax cuts (~1.5%+ of GDP) at a time when inflation is already running high has prompted an outsized sell-off in debt markets (40bps+) and a run on the currency (GBP down 7%+ in two trading session with soaring FX vols, although it has now recovered somewhat).

A messy tangled fiscal-monetary state to put more pressure in UK asset classes. With the fiscal and monetary stance at loggerheads, pressure has mounted on the BoE to front-load hikes to counter demand. Market pricing of the Bank of England (BoE) terminal rate is now up by over 200bps since August! With UK’s twin deficits set to balloon, the GBP free fall is unlikely to stop unless led by colossal interest rate defence by the BoE. The credibility of the BoE is now in question – most market participants expect an imminent emergency rate hike, or a hawkish statement by governor Andrew Bailey at the very least, to help calm markets.

King Dollar is still on the throne. This further reinstates our arguments that global narrative is undergoing a substantial regional rotation in favour of US exceptionalism, even as we are unlikely to see US growth upgrades. The theme of dollar dominance is still alive. A stronger USD would imply higher global inflation exported by the US, lower global trade, cry for reverse FX wars, and pressure on equities & EM assets. (See ‘Dollar to the moon’ (Aug’22)).

While GBPINR is down 4%, USDINR is up 2% since the September FOMC meeting – one of the worst EM hits. INR readjustment is catching up faster than peers, as it was held stronger in past adjustments by policy intervention. India’s massive FX defence, amounting to more than US$100bn estimated since Oct-21 (spot + forwards) means that the war-chest is falling faster than the pace at which the war is fading. Amid emerging regional imbalances, we re-iterate that the RBI will eventually let the exchange rate adjust to new realities, albeit in an orderly manner, letting it act as an automatic macro stabilizer to the policy reaction function. (See INR: Should RBI let it be (Jun’22)).

India’s macro exposure to UK limited, but watch out for the financial ripple effect - With respect to the UK, the direct macroeconomic impact on India is limited, but financial ripples could amplify this impact. India’s export exposure to UK is limited with only 2.7% of the total export basket directed at UK (~0.3% of GDP). Textiles & apparels, machinery, and pharma form the bulk of exports. Service exports to UK account for ~0.6% of GDP. Not more than 2-2.5% of India’s incremental inward FDI flows come from the UK. On a sectoral basis, weaker GBP is mildly positive for Tata Motors on the operational front (ceteris paribus) through its Jaguar Land Rover subsidiary, which manufactures and exports from the UK. However there will be near-term MTM losses on its USD-denominated debt. In large-cap ITeS, TCS has the maximum revenue exposure to GBP, followed by Wipro.