If you are planning to make a long-term fixed deposit or a recurring deposit, wait a little longer. The Reserve Bank of India (RBI) is set to meet on June 6 for its next monetary policy revision and all signs are pointing towards an increase in interest rates.
Why might RBI increase the interest rates?
Just this week, on Thursday, Indonesia raised its interest rates to calm its volatile financial markets. India too is a fragile emerging economy, just like Indonesia, as its highly dependent on foreign inflows and vulnerable to rising interest rates in the US.
Foreign investors have pulled out as much as $3.3 billion from Indian markets this year and have likely invested in US bond yields that are at their 7-year high. The American economy is currently on the rise and reported an increase in consumer spending for the month of April. Reports also suggest that investors are flocking to the US as their markets are much more stable compared to emerging markets right now.
Withdrawal of investments in India has also declined the value of rupee, making it the worst performer in Asia for the year, despite efforts from the authorities to make bonds more attractive. RBI releases also show a drop in forex reserves, which suggests that the central bank intervened to strengthen the rupee.
The trade deficit, on the other hand, is also widening from the increase in crude oil rates. As the world's third-largest consumer of oil, imports are hurting our economy at the moment.
This may not be bad news entirely. Firstly, expert analysts like JP Morgan Asset Management suggest that the sell-off in emerging markets is temporary and will pick up once the dollar value strength wanes.
More importantly, inflation means an increase in interest rates. In order to control inflation, the central bank usually increases interest rates on borrowings as well as deposits.
This is because, when interest rates increase, money borrowed by the citizens will reduce and they will make more deposits to earn returns. It gives the government more spending money and vice versa for the consumer.
When consumer spending is lowered, there will be lesser demand for goods, and that will bring down prices (inflation will be under control).
How will this affect you?
You will get a higher rate on your fixed deposit if you wait a little longer. So if you are planning a long-term FD, you may reap good returns for the next few years, irrespective of the change in policy in the quarters following June.
Loans, however, will get expensive from rising interest rates. So, plan your purchases accordingly.