'Rates to go up by 25 bps in July'

Ajay Mahajan of Yes Bank expects aggressive tightening to follow now and another 25 basis points hike in interest rates in the July Policy. He further adds that the rupee is likely to strengthen a bit due to tightening in domestic rates.

Excertps from CNBC-TV18's exclusive interview with Ajay Mahajan:

What impact do you see of this rate hike on the markets today? Is this move a little unexpected?

The move was only a slight surprise because all in all, the markets were expecting a hike in the July Credit Policy for sure and I would term this increase of interest rates more as a corrective measure to the April policy, where the rates were left unchanged.

That was done on the basis of certain expectations that price pressures will reduce, but on the contrary looking at the last one to one and a half months, the price pressures have increased and there is also a small evidence of larger contribution of manufactured price, manufactured good items contributing more to inflation.

There is also inflation reading coming in today and the global cues, the ECB raising rates and also Thailand, Korea, Turkey and South Africa have gone into a tightening cycle. So I think it was pretty much on the cards and the surprise is only that it has happened before the formal Credit Policy review.

Regarding its impact on the markets, obviously fixed income would get battered in the morning and I expect the five-year OIS to jump at least 15 basis points at opening, rupee will slightly strengthen a bit.

So to sum it up, I think dollar-rupee is slightly down and fixed income is under pressure, OIS rates, derivatives, swaps up about 10-15 basis points but more importantly, the pressure in terms of the market expectations of further rate hikes is actually going to drive the fixed income markets more from here.

The fact that they have chosen to move between two meetings, what would you read into that?

That is why I said this was more a corrective action to the April policy and the way I justify it is that in the month of February-March, there was severe liquidity tightness after the IMD outflows.

Even if the action to increase rates was warranted at that time, the Central Bank gave some reprieve to the markets because rates had already gone up and there was lack of liquidity in the system and credit growth was very strong. There was perhaps a case for differing the rate hike.

Now with the global tightening cycle, the Fed and basically with the pressure from emerging markets to increase rates, I think the RBI may have felt that they did not do anything in April and still if they were to run without a rate hike until July, then there could perhaps be a potential risk of 50 basis points hike in July.

My view is that since this was a corrective action required, they have gone ahead with 25 basis point hike now and there is room for further hikes to come. I think aggressive tightening is here to follow.