Even as the Indian stock markets have been setting new records, the conviction among investors, analysts and the people at large that the rally is driven almost entirely by political factors is growing by the day. Pre-election rallies have not been uncommon in India. Before every previous national election, the markets were buoyant. However, in a majority of the cases the optimism did not last even for a short period after the elections. What distinguishes the latest rally from previous ones is the widespread belief that a “business-friendly” BJP-led government with Narendra Modi at the helm may take charge; that will be good for the economy and business. Investors, especially the foreign institutions, are riding on that conviction and pouring money into Indian equities, spurring what has come to be called the Modi rally. There are high hopes that unlike previous pre-election rallies, this one would endure as the new government will act decisively to revive investment. Amidst this euphoria, very few people question the premises behind such conclusions. There are many imponderables, but even if a government led by Mr. Narendra Modi is formed it might still be hobbled by coalition politics. Nor is it certain that even if the new government has the necessary political support, it will decide to undertake, and will be able to implement, those measures that the markets expect.

Credit Suisse, one of the very few global researchers that has taken a contrarian view, points out that the Central government by itself cannot revive the investment cycle. Only about one-fourth of the infrastructure projects are bogged down due to the Centre’s inaction. The rest are “constrained by overcapacity, balance-sheets or state governments”. Irrespective of election results, the pre-election stock market rally is predicted to fizzle out quickly. A more sustained rally will depend on the economic fundamentals improving. At present, the economy is struggling with weak demand, high corporate debt, a near-collapse in private investment, and a massive bad loan problem for banks. Economic growth remains stuck at around 5 per cent. The impressive turnaround in the current account is due to severe curbs on gold imports, which cannot last indefinitely. Inflation remains high despite the recent fall. The rupee has been stable recently but the U.S. Federal Reserve’s actions need to be closely watched for their impact on the external economy. Inflation remains high and while that rules out interest rate cuts, the new government will be fiscally constrained to provide a stimulus. These and a few other factors make for a much more complex picture and raise questions on the assumptions behind the market rally.

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