Paradox of a dwindling world economy and a growing India

The markets would stabilise at current levels and will see an upward trajectory reflecting the growth potential for the country. File photo  

There are three major crisis faced by the Indian financial markets since the opening up of the Indian Economy in 1992 — The South-east asian currency crisis in 1997; global financial crisis in 2007 with the fall of investment bank, Lehman Brothers: and the slump in the Chinese economy witnessed this week.

While the intensity of the fall in financial markets was less in 1997 as the country was not exposed much to the global economy at that point of time, the impact was heavier in 2015. “We were able to protect our markets because of our strong macro economic fundamentals,” says N. S. Venkatesh, Executive Director and Chief Executive Officer of IDBI Bank.

The fears of China economy slump have made the market very nervous. “But I believe this (fear) has been overdone,” says Mr. Venkatesh. For Indian markets, as inflation has been climbing down, monsoon near normal and currency being one of the better currencies compared to Malaysian Ringgit, Indonesian Rupiah and South African Rand, the economy could withstand any financial onslaught.

The markets would stabilise at current levels and will see an upward trajectory reflecting the growth potential for the country. The fall in commodity prices, particularly the crude oil will help us reducing the subsidy burden for the government and will in turn help better fiscal management and reduction in inflation expectations.

In 1997, other economies, especially, the emerging market economies (EMEs) were over-heated with the foreign funds entering their real estate and stock markets. However, India’s premature stage of openness (of economy) helped the country from a wild attack of withdrawal of foreign funds as witnessed in other countries.

When global financial crisis erupted in 2007, the country’s economy was well protected by the Reserve Bank of India (RBI) with Dr. Y.V. Reddy at the helm. The proactive regulatory regime perceived by higher capital as well as higher risk weightage for real estate loans, the central bank was able to kept the asset bubbles at bay. This legacy had been continued by Dr. D. Subbarao also.

The RBI, as a regulator, has always been ensuring that short-term hot money flows are discouraged which has helped the country to withstand all financial turbulences from 1997. “Even when look at the preference of the country, we attract long term flows from real money investors such as pension funds, insurance funds and sovereign wealth funds,” says Mr. Venkatesh. This would enable the economy to withstand any financial turmoil, together with the built up of adequate foreign reserves.

Chinese crisis

Devaluation of Yuan by People’s Bank of China (PBoC) on August 11 and 12 led to major volatility in global markets and competitive devaluation in currencies by a few emerging markets. Even though on REER (Real Effective Exchange Rates) basis, Yuan doesn’t seem to be undervalued but the timing of devaluation (slowing growth in China and plunging stock market) exacerbated the market reaction as market participants took this as a signal that Chinese authority are going to use currency devaluation as a tool to spur growth,” says Vinod Garg, Director, QuantArt, a foreign exchange advisory firm.

Last Monday (August 24), the meltdown in global markets, in the context of a dwindling Chinese economy, prompted RBI Governor Dr. Raghuram Rajan to say: We live in an increasingly uncertain world. Seven years after the financial crisis, advanced economies are still growing slowly, while a number of emerging economies are experiencing difficulty as the old export-led growth model flounders.

He continued: Central bank is not a ‘cheerleader’ for the economy. By this I did not mean that the RBI does not want to do its utmost to see the economy do well. Far from it! What I meant is that it is not the role of the central bank to elevate sentiments unduly, to deliver booster shots to the stock market so that it can soar for a while, only to collapse when reality hits. “We do not have to look too far beyond our borders to see the consequences of such boosterism.” He was referring to the Chinese economy.

Though given the violent reaction of Yuan devaluation it would be interesting to see if China allows Yuan to weaken materially going forward, says Mr. Garg.

For long China has been the powerhouse of global growth. So, naturally any slowdown in Chinese economy has much wider ramifications. On the one hand, it adversely impacts commodities producing nations like Australia, Africa, Russia etc. directly as the biggest consumer of commodities slows down. On the other hand, it impacts most of the nations, including the U.S. and Eurozone, exporting to China. For the first time in two decades, car sales and car production have declined. “I think,” says Mr. Garg “devaluation or no devaluation, emerging market assets or the so called ‘Riskier Assets’, which includes stocks, currencies among other will remain under pressure.” “I agree that for Indian markets current round of weakness has hardly got anything to do with local factors, but then one cannot ignore the global mood and the impact that Foreign Portfolio Investors (FPIs) have on Indian market,” Mr. Garg argues. As and when (FPIs) decide to cut risk to protect their investments, they will reduce exposure across markets, including India, which will put pressure on both Rupee and Stock markets.

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Printable version | Dec 3, 2021 4:39:54 PM |

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