It’s that sinking feeling again. The new year began with a terrible start for global equities, reviving the memories of the 2008-09 crisis, and raising concerns of a repeat of the worst financial crisis since the Great Depression of 1930s.
Global equities markets fell after bouts of turbulence and uncertainty as major economies slowed down or grew at a languid pace. While the US has begun raising rates, other major powers are looking at monetary easing to lift their economies.
Over the past year, Sensex and Nifty have dropped a fifth of their value, rupee has weakened further against dollar, thousands of crores of foreign portfolio money have moved out of India. Exports too have contracted for 13 months straight. These have come in the backdrop of key commodities including crude oil, steel, copper and nickel falling to their lowest in a decade or more. Muted investment and credit pick-up, and political slugfest have further added to the current sombre confusion. Yet, opinions on India vary from ‘the country that keeps losing golden opportunities’ to the ‘oasis of growth’.
China, currency and commodities are seen as leading the crisis. Slowing down of the Chinese economy, the world’s biggest in purchasing power parity terms, and its shift away from infrastructure-led investment to consumption — a tougher target to achieve — has given the global economy its first red flag.
A mild devaluation of the Chinese yuan dealt the first blow to competing economies and highlighted implications of global commodities in down-cycle. The world’s fastest growing economy for quarter of a century has also been the biggest consumer of the key commodities. It remains the biggest producer of steel, but has been dumping the metal to beat lack of own demand. And thus, the slowing dragon is also dragging other commodity producers down.
More severely hurt are crude oil producers. The price of liquid gold has dropped by more than two-thirds from about $115 per barrel to as low as $27 per barrel. Countries heavily dependent on crude earnings such as Russia, Saudi Arabia, Venezuela, and Nigeria are among those hit the hardest. The situation is pushing down their currencies, shrinking their economies, and prompting them to withdraw investments especially from emerging markets, far from making new investments.
Further, the US Fed’s decision to increase interest rates for the first time in a decade has strengthened the dollar which in turn, again encouraged investors to suck out funds from emerging economies. Central banks across the globe see varying objectives with the US raising rates, while China, Europe and Japan look at easing to revive demand.
Money managers and economists don’t see an early exit from the current quagmire. Yet, there’s an unanimous view that it’s not a repeat of 2008.
“The 2008-09 crisis was due to failure of financial system and then the sovereign debt crisis. But today it is due to a business cycle hitting hard where consumption is back for a variety of reasons,’’ says Madan Sabnavis, chief economist at CARE Ratings. “The solution for 2008-09 was to revive the economy through easing and deficits. Today, we have a crisis where these measures are not working. Central banks do not know what to do. Governments fear the fiscal deficit targets and are not spending. This has caused a crisis. This situation will change only gradually and would take three to four years.’’
The 2008 crisis followed years of low interest rates, plentiful liquidity and sound growth across economies. Between 2003 and 2009 India grew at more than 8.5 per cent each year on average. Banks in the US were chasing potential home buyers and other clients to give loans to, and in the euphoria, lent even to sub-prime borrowers. After the music stopped, even the bluest of the blue-chip banks were left holding hollow books, and the crisis began with Lehman Brothers’ collapse.
As funds exited emerging markets en masse even the Indian rupee weakened past 68.80 per dollar and the Reserve Bank of India (RBI) had to slash reserve requirements to help banks stay liquid. Sensex then dropped to almost half of its value on account of flight of overseas funds.
Today, in contrast, the US bank provisions and consumer debt service are at a historic low, and there’s no rise in mortgage delinquencies or cards write-offs. Unlike 2008, the system today is strong.
While banks in India are facing a crisis of bad loans, most of these non-performing assets (NPA) are recoverable, even though partially. Strict RBI diktats forcing banks to make full disclosures of stressed loans should help clean and strengthen the system. So by no stretch of imagination, can the situation be compared with the sub-prime crisis even though the NPAs are curtailing India’s growth for now.
“In India, weak asset quality in the banking system, and high leverage on corporate balance sheets preclude a sustainable pick-up in growth. The process of balance sheet repair is ongoing, and once balance sheets are healthy again, sentiment and actual investment could improve,’’ says Atsi Sheth, associate managing director, Sovereign Risk Group, Moody’s Investors Service at Singapore. “India’s commitment to strengthening the banking system is an important step in creating conditions for sustainable growth. This, coupled with other efforts, to improve ease of doing business and open up more sectors to foreign investment could show results in growth data over time,” adds Sheth.
So for India, is the current situation an opportunity or a challenge?
“PM Modi has put India back on the map. As China is slowing, India is seen as the next growth engine for worldwide companies,’’ says Andrew Holland, CEO at Ambit Investment Advisors. “If we can attract FDI that could be a long-term positive for India. India’s growth story has its challenges but, if it can use this opportunity of low-commodity prices and attract FDI, it will have room to wiggle around. Though at this time one is walking on a global tight-rope,” adds Holland.
“A drop in oil will help India attain lowest current and fiscal deficits in a decade,” says Sanjiv Bhasin, executive vice-president at IIFL. Yet, the key will be increase in government and private spending.
Challenges far outweigh the positives, says Sabnavis. Growth is not up to the desired level as high capacity comes in the way of investment, and fiscal discipline in the way of government expenditure. High food inflation has affected consumption of non-food items.
“We have to focus on spending in a non-inflationary way — increasing consumption, investment and government expenditure,” says Sabnavis. “Only the government can spend large amounts, which will have positive impact on private investment. The budget has Rs 1.3 lakh crore of capital expenditure which is quite small to revive the economy,” he adds.
Morgan Stanley Research describes India as “still the best house in a bad neighbourhood”. It expects recovery in domestic demand led by rise in public sector capital expenditure, increase in foreign direct inflows, and pick up in urban discretionary consumption.
Where Are The Equities Headed“We have no real catalysts ourselves — earnings remain weak, the economy is not picking up, which we are hoping for, and instead keeps getting delayed. Plus, reforms that we were banking on have turned negative since things have changed,’’ says Ambit’s Holland. “Even if GST or bankruptcy laws are passed, they would not give a boost to the GDP but could lead to a positive sentiment,” he adds.
“We are in a twilight zone — I give a very good bear case while you can give me an equally good bull case kind of situation,” says Holland. It’s tough to pinpoint the outcome of the current situation apart from saying that the markets are going to remain volatile.
sumit@businessworld.in; @mediasumit
(This story was published in BW | Businessworld Issue Dated 08-02-2016)
