Japan’s interest rate hike can impact FPI inflow

Japan is the fifth largest country in terms of FDI equity inflows into India and the eighth largest as far as FPI asset inflows are concerned.

Japanese entities have significant presence in the Indian automobile, electronics, and entertainment sectors. There are over 1,400 Japanese entities that have prominent investments in the Indian automobile, electronics, and entertainment sectors. Similarly, Indian entities in IT and pharma sectors have notable presence in Japan.

Moreover, bilateral agreements between India and Japan benefit India by enhancing trade, infrastructure development, and funding. Key partnerships include infrastructure projects, industrial corridors, and cooperation in essential areas such as semiconductors, space exploration, and digital technologies. These agreements also promote start-ups and skill development while tackling current challenges like climate change and supply chain disruptions. Recent agreements also focus on semiconductors, start-ups, climate funding, supply chain resilience, defence and skill development.

However, The Bank of Japan increased interest rates twice in the past six months after a stagnant rate for more than eight years. The BOJ shook off negative interest rates in March and raised short-term rates to 0.25 per cent in July on the view the economy was making progress toward durably achieving its 2 per cent inflation target. The bank also seems to be ready to raise rates further if inflation stays around 2 per cent in coming years along with solid wage gains. This could see some of the Japanese funds returning to the country.

With Japanese FPIs accounting for 3 per cent of the total Indian FPI Assets Under Custody, there could be some degree of near-term impact due to unwinding of the yen carry trades, finds ICRA.