In his recent interview, RBI Governor Raghuram Rajan indicated that an interest rate cut will not be forthcoming. Indian investors should be glad. Here's why:
- The global war on savers
Globally, there have been 650 interest rate cuts since the 2008 financial crisis. That's one rate cut every three trading days! $13 Trillion in sovereign government debt now trades with a negative yield. That's up from $7 Trillion this February. Trillions, with a capital 'T'. Investors are now paying governments and companies to borrow money from them. Pension funds and insurance companies are struggling to honour their obligations, retirees and savers have been losing out on interest income for 8 years. The last thing needed right now is yet another rate cut.
- Artificially low interest rates lead to wastage of capital
Who benefits most from lower interest rates? Struggling companies with high debt loads and heavy interest expense. These companies would be forced to cut costs, become more efficient or sell unprofitable operations if they weren't artificially propped up by low interest rates. The survival of such companies means scarce resources are getting wasted in relatively unproductive activities, hindering real economic growth.
- Less speculation, more investment
When interest rates are low, traders can increase the size of their margin trading, contributing to an artificial demand for stocks and irrationally pushing up stock prices. This hurts long-term investors since returns are dependent on buying at a good entry price.
- Provides a buffer for the next recession
We haven't abolished the business cycle. At some point, we are going to have a recession and the RBI will have the flexibility of cutting interest rates then.
Parting Thought
"I still believe, and more strongly than ever, that we're looking at a long-term bottoming process in interest rates here."
- Jeffrey Gundlach, CEO of DoubleLine Capital, an investment firm managing $100 billion in capital and Billionaire.
