India's Natural Interest Rate May Stay Stable, Narrowing US Yield Gap Could Weigh on Capital Inflows: SBICAPS

New Delhi, Nov 11 (KNN) India's natural rate of interest is likely to remain stable despite rising interest rates in developed economies, but a narrowing yield gap with the United States could make foreign capital inflows less dependable for financing the country's current account deficit, according to a study by SBI Capital Markets Limited (SBICAPS).

The report said India's stable growth outlook and anchored inflation expectations were supporting its natural interest rate, while gradual fiscal consolidation, an improving credit profile and a recovery in household savings could provide further stability, ANI reported.

The natural rate of interest, or r*, is the theoretical rate at which an economy can grow at its potential without generating inflationary pressure. It influences borrowing costs and government bond yields over the longer term.

In contrast, the US natural rate is expected to rise amid higher government debt, increased borrowing costs and shifts in global investment flows.

The study noted that inflation-driven rate increases accounted for around 75-85 per cent of the rise in US Treasury yields since mid-2020. Higher government borrowing, concerns over US creditworthiness and overseas investors diversifying into non-dollar assets could add to the upward pressure.

Narrowing Yield Gap May Affect External Financing

The report said the gap between Indian and US inflation has narrowed over the past decade, reducing the difference in policy rates and government bond yields.

This could weaken India's ability to attract foreign capital to finance its current account deficit as the yield advantage of Indian debt diminishes.

To manage external risks, SBI Capital Markets recommended strengthening export-led growth to improve the merchandise trade balance, encouraging foreign investors to return to equity markets and maintaining adequate foreign exchange reserves to support currency stability.

These measures would become increasingly important in managing India's balance of payments as global interest rate conditions evolve, the report said.

(KNN Bureau)