The Reserve Bank of India (RBI) released its bi-annual Financial Stability Report on Tuesday, where it flagged exchange rate volatility, energy price shocks and inflationary pressures due to the ongoing West Asia crisis.
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India’s financial stability remains resilient despite risks to global financial stability amid the ongoing conflict, the report said. However, the economy remains exposed to energy price shocks and supply-chain disruptions because of its dependence on imported oil.
It also added that the West Asia conflict and consequent increase in global uncertainty have impacted emerging market economies like India through the financial channel.
Fundamentals strong, economy exposed to energy shocks
The Financial Stability Report said that Indian financial sector remained resilient amid a challenging global environment, supported by healthy capital ratios, comfortable liquidity buffers, and non-performing assets ratios at multi-decadal lows.
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It said that the country’s sound macroeconomic fundamentals places India in a stronger position than many of its peers and provide more resilience to external shocks.
However, the Indian economy remains exposed to energy price shocks and supply-chain disruptions given its high dependence on imported oil and other key commodities, it added.
The global uncertainty led by West Asia conflict impacted emerging market economies (EMEs) like India through the financial channel.
“The exchange rate came under sustained depreciation pressure due to weakening of capital inflows and higher hedging demand from importers and investors. Notwithstanding sustained fiscal consolidation, government bond yields, especially at the longer end, came under pressure mainly reflecting geopolitical tensions and rising energy prices,” the report said.
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Despite the challenges, India still remained the fastest growing major economy supported by domestic demand, the report said, adding that the inflation remains within target.
RBI report flags exchange rate
The RBI report also flagged the depreciation of Indian rupee due to weakening of capital inflows and higher hedging demand from importers and investors.
“Notwithstanding sustained fiscal consolidation, government bond yields, especially at the longer end, came under pressure mainly reflecting geopolitical tensions and rising energy prices,” the report said.
With the growing optimism over West Asia and measures from the RBI and the government, the report said that the pressure on exchange rate and bond yields have eased.
Impact of West Asia conflict receding
The Indian economy in the recent months saw an underperformance of Indian equities, with several stocks reaching fresh lows and large sell-offs by foreign portfolio investors (FPIs). The selloff and bearish factor had partly to do with potential threats from Artificial Intelligence and country’s exposure to the supply shock.
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After the sharp correction in equity markets, the economy has showed increased resilience, the report said.
It highlighted that sound macroeconomic fundamentals provide ample buffers to deal with external shocks.
However, it warned that despite receding tensions with an interim peace deal between the US and Iran, the Indian economy and the financial system remain susceptible to geopolitical tensions and associated shocks.
“A sharp correction in global equity markets, particularly if driven by a reassessment of corporate earnings growth and elevated valuations in AI related stocks, could spill over to domestic markets,” the report added.
