Explained: How the US Fed’s tapering may impact Indian markets

by 5paisa Research Team Last Updated: Dec 11, 2022 - 10:18 am 48k Views
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The US Federal Reserve is set to begin tapering or reducing the speed of its monthly bond purchases by $15 billion a month—$10 billion in treasury and $5 billion in mortgage-backed securities—down from the $120 billion a month worth of paper that it is mopping up at present.

This move comes as the central bank begins to pull back on the stimulus it had begun injecting in the US economy in the wake of the coronavirus pandemic, which had forced worldwide lockdowns including across the US. 

So, why should we in India be concerned about the US Fed’s tapering?

India and other emerging market economies are interlinked with the US economy in more ways than one. 

For one, there are Foreign Portfolio Investors (FPIs), who can take their money in and out freely. Hot money, as it is widely referred to, drives the stock market up and down. If the US Federal Reserve pulls back, the FPIs could follow suit, and India’s markets could go in the red, at least in the interim. 

Second, the liquidity provided by the Fed’s injection into the US economy was one of the factors that kept a demand shock at bay, and cushioned the US and the world economy. But if money begins to dry up, it may mean that at least in the interim, demand could decline. That can impact India’s exports, and the companies that are export-dependent, negatively.  

But do Indian markets seem worried yet?

Not really. Indian markets were unfazed following the Fed’s announcement last week of its planned tapering. This, stock market experts say, is because the Indian markets were expecting the move. 

“The taper was mostly factored in and will only have a marginal impact. There is no tantrum, rather it is happening smoothly this time,” Joydeep Sen, fixed income consultant at Phillip Capital, told Business Standard. “Maybe we will see some nominal incremental impact when it actually happens, but there are so many factors in a dynamic market.”

There may be another reason for the Indian stock market’s apparent nonchalance. The Fed’s taper will continue right up to May 2022, so it is not as if all the money is going to be pulled out of the system at one go. 

Wasn’t India badly impacted by the Fed’s tapering once in the past?

Yes, the 2013 tapering by the US Federal Reserve had impacted India badly. But this was a time when India was under a heavy fiscal and current account deficit and its foreign exchange reserves were nowhere near the levels they are at today. 

Today, the Reserve Bank of India (RBI) is sitting on a foreign exchange reserve in excess of $640 billion, which will cushion the impact of a pullback by the Fed. 

How are Indian bond yields faring in the wake of the news?

The 10-year bond yield closed at 6.34% on Wednesday, the last day of trading for the previous week.  

Bond dealers expect the yields to rise as much as 6.5% by March if the RBI doesn’t forcefully want to bring it back to lower levels, the Business Standard report said. 

What has the Indian government said about the likely impact of the Fed’s taper on the Indian economy?

Indian finance ministry officials have reportedly said that the country’s economy will take the taper well and is not vulnerable to such a pullback. Yet, the rising prices of crude oil and gold, both of which India imports, could disrupt its balance of payments and weigh heavily on the rupee. 

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