Economy

KEY POINTS

·        The U.S. Federal Reserve recently announced that, it would begin to gradually roll back its nine-year programme of quantitative easing (QE).

·        The U.S. central bank resorted to QE in the immediate aftermath of the 2007-08 financial crisis in order to boost a falling economy.

Quantitative Easing

·        QE is an unconventional monetary policy in which a central bank purchases government securities or other securities from the market in order to lower interest rates and increase the money supply.

·        QE increases the money supply by flooding financial institutions with capital in an effort to promote increased lending and liquidity.

·        QE is considered when short-term interest rates are at or approaching zero, and does not involve the printing of new banknotes.

Impact in India

Impact on economy

·        Slowdown of dollar inflows in equity and debt

·        Dollar outflowscould weaken the rupee, and hold the RBI back from cutting interest rates as that could lead to further outflows.

·        With crude prices on the rise, a weak rupee will inflate the import bill and put pressure on the government’s finances.

Impact on market

·        A rate hike will improve the yields on US government bonds. In other words, the bonds will offer a better rate of return than before.

·        This could prompt global money managers to shift a part of their money into US government bonds.

·        More often than not, fund managers sell a part of their holdings in emerging market equities and deploy that money in US bonds.

Impact on companies

·        Imported raw material such as copper, aluminum and machinery can turn expensive, potentially squeezing margins of companies dependent on them to make products.

·        This may lead to hike in prices of goods such as cars and televisions.

·        The rupee’s slide can also hurt companies with foreign currency loans as repaying in dollars will get costlier.

Impact on start-ups

·        Investors shift their part of capital and even focus away from markets such as India towards the US.

·        This may likely to lead to more consolidation, shutdowns, and lowering of valuations of Indian start-ups in the months to come.

Impact on investments by people

·        A stronger dollar could negatively impact gold prices.

·        Equities could be volatile in the short term.