Financial conditions in August were strained by global macros and lower domestic liquidity, according to CRISIL’s Financial Conditions Index (FCI) .
The index value moderated to 0.7 in August, after peaking at 1.1 in the previous month. A higher index value indicates easier financial conditions, and vice versa. FCI has trended up in the previous four months.
“Financial conditions were primarily affected by rising crude oil prices, which hit foreign portfolio investor (FPI) flows to India — the primary driver of easing financial conditions in the previous four months. This hurt the Indian rupee as well, and weakened investor sentiment in the domestic equity and debt markets. Domestically, a reduction in surplus liquidity played spoilsport. The temporary imposition of an incremental cash reserve ratio (I-CRR) by the Reserve Bank of India reduced systemic liquidity. This led to rising market interest rates, especially in money market and short-term government securities (G-secs),” Crisil said in the report shared exclusively with businessline
“Nevertheless, the broader economy remains largely unaffected, as bank credit growth rose further and lending rates remained stable in August. The recent adverse turn in macroeconomic indicators, such as crude oil prices, inflation and monsoon deficiency could weigh on investor sentiment, if sustained,” it added.
Brent crude oil prices rose 7.6 per cent on-month to $86.2 per barrel, on average, in August, driven by voluntary supply cuts by Saudi Arabia and Russia. This weakened investor sentiment — particularly of FPIs — as rising crude oil prices adversely impact India’s current account deficit (CAD), rupee, and inflation.
Bond yields were hit by rising crude oil prices, domestic inflation, and liquidity. The yield on the 10-year G-sec rose 8 bps on-month to 7.19 per cent on average in August. A sharp rise in crude oil prices affected yields, given its upside risks for India’s CAD and inflation. Incoming CPI inflation data in August showed its resurgence to 7.4 per cent, much above the RBI’s upper target of 6 per cent. These developments have reduced expectations for a rate cut by the RBI in the next few policies. Reducing surplus liquidity also contributed to rising yields, especially of shorter tenure. Compared with an 8 bps rise in the 10-year G-sec, the 1-year G-Sec rose 16 bps, 2-year 10 bps, 3-year 11 bps, and the 5-year G-sec 9 bps. The yield curve, at present, appears to be the flattest since 2018.