Is India’s Economy About To Turn The Corner?
Indian inflation fell back again in the last week of October, as energy and commodity prices continued
to fall, and the impact of the global financial turmoil and credit crunch ricocheted its way across one
country after another. The IMF last week forecast annual growth for India of 6.3% in 2008 while
India’s manufacturing expansion, which continued to weaken, still held out against the global trend,
according to the latest JPMorgan global manufacturing PMI.
So, as we enter November, and a number of Indian indicators start to improve, it is certainly worth
asking ourselves, has India turned the corner? Will India lead the emerging markets charge during the
next global expansion?
I am not, I am sure, alone in feeling that this is a distinct possibility, and, indeed, a similar view was
expressed only last week by Sharmila Whelan, senior economist at CLSAAsia-Pacific Markets.
“We do expect the Indian business cycle to be the first to bottom in Asia. And, it should, in
theory, be first to emerge,” Sharmila Whelan, senior economist at CLSA, said “The worst
will be over by mid-2009 and by 2010 you should be able to see the next investment-led
business cycle taking root.”
To the two reasons Wehlan offers us as an explanation for why we should expect India to do better than
most (and, perhaps of particular nore here, better than China) - the fact that Indian trade constitutes
only about 32.5% percent of gross domestic product (only about half the China figure - thus India is
better protected from fluctuations in global trade) and the fact that India (unlike say Russia or Brazil)
will be a large net beneficiary from falling commodity prices - I would add a third, India’s very
favourable demographic profile, which will mean that over the next decade India can continue to draw
on the benefits of a young and rapidly growing labour force at just the time when 30 years of once child
per family policy starts to bite really hard on the new labour market entrant cohorts in China (for
Inflation Screeches To A Halt
India’s inflation held near a five- month low at the end of October, seemingly validating the central
bank decision to reduce interest rates to bolster economic growth. Wholesale prices were up 10.72
percent in the week to Oct. 25 from a year earlier after gaining 10.68 percent in the previous week,
according to the latest data from the commerce ministry.
Of equal importance is the fact that the weekly rate of
inflation (week on week) recently turned negative, as energy and commodity prices drop back, and as a
result the wholesale price index has now been dropping for eight consecutive weeks after peaking in
the August 30 week.
One of the reasons inflation is weakening is of course the fact that Indian GDP growth has been
slowing, and the current growth rate is clearly significantly below the 7.9 per cent rate registered in the
second quarter (2008 calendar year) a rate which was already notably lower than the 8.8 per cent one
reported for the January to March quarter. But with countries from the US to Germany, to Russia and
maybe even China (who knows at this point) falling into or near to negative growth, then even a 7%
rate looks decidedly healthy to me. What was it they were saying not so long ago about “Hindu
growth”? Better a tortoise than a hare in some contexts, but then again, a 7% tortoise is certainly no
It is interesting to note in passing that the IMF - in revising their forecast down to 6.3% for 2008 -
stated that they consider this level to be considerably below India’s potential growth. For the time
being, it seems, the old “overheating” debate has become a thing of the past. These days we all love
India, now don’t we?
Ironically, the current global situation is also making India’s measured pace of economic
reform look wiser than before. At a time when Western countries are frantically
nationalising banking assets, the Indian government’s reluctance to sell more than 49% in
its state-owned banks—which control some 70% of banking assets—now seems reassuring.
In addition, India has not yet introduced full capital-account convertibility, which protects
its currency, while its careful control of foreign borrowings by domestic companies limits
dependence on the global financial system. Regulators have also periodically introduced
curbs to slow the formation of potential asset bubbles, such as higher provisioning and
prudential requirements on real-estate lending.
“For India we have marked our forecast down to 6.3% of 2009 calendar year. That is
considerably below what we consider to be India’s potential growth,” IMF deputy director
for Asia Pacific region, Kalpana Kochhar said. “There is a specific meaning to “potential” -
it is the rate at which you can grow without causing inflation. And for India we estimate
that to be 7.5% to 8%. Our forecast of 6.3% would put it quite a bit below the potential,”.
Obviously there are still varying forecasts, with the RBI and the central government being rather more
optimistic than most, although India’s central bank did reduce its growth forecast on October 24 down
to 7.5 percent from 8 percent for the year to March 31. This prediction, if fulfilled, would mean the
2008/09 expansion would be the slowest in four years, but then in the midst of the largest global
recession since the 1930s that doesn’t sound so bad, now does it?
Interest Rates Coming Down and Monetary System Stabilising
The Reserve Bank of India cut its benchmark rate on Nov. 1 for the second time in two weeks, joining
policymakers across Asia in lowering borrowing costs to shield their economies from the global
financial crisis. For the first time since 1997, India’s central bank on Nov. 1 deployed all three of its
main tools to shore up growth after inter-bank lending rates climbed to as much as 21 percent. The
move seems to have substantially improved liquidity in the financial system, and overnight call rates
The Reserve Bank of India lowered its benchmark repurchase rate to 7.5 percent from 8 percent. At the
same time the central bank also reduced the cash reserve ratio to 5.5 percent from 6.5 percent, and and
cut the amount of money lenders are required to keep in government bonds to 24 percent from 25
The RBI is also considering giving an additional 100 billion rupees ($2.1 billion) each as lines of credit
to National Housing Bank and Small Industries Development Bank of India, according to Finance
Minister Palaniappan Chidambaram speaking during last week. The idea here would be to increase cash
flows for mortgages and for small companies.
Rupee Rises Slightly
The rupee climbed 3.8 percent last week to close at 47.66 a dollar at the 5 p.m. in Mumbai on Friday.
The increase represents the biggest weekly gain since March 1996, making the rupee currently the best
performer among Asia’s 10 most-active currencies outside Japan.
In addition on the foreign currency front, the Japanese Yen is also dropping back slowly against USD,
which means that yen “carry” may be slowly starting to recover. A surge in USD-Yen (and hence yen
carry) would be another clear sign some key emerging markets we about to start moving, in my view.
As we can see from the chart - unless we have more “turmoil” to cope with moving forward - October
24 seems like it represents some kind of turning point.
Stocks Start To Tick Up Again
The Bombay Stock Exchange Sensitive Index has also rebounded, and is up 17 percent since the
bottom on Oct. 27. The index added 2.4 percent on Friday. The MSCI core index for India is also up
6.74% so far this month. After all that falling over the last twelve months, it is that little upturn since
the start of November (see chart below) that we would like to see consolidate and continue. Of course,
this may be yet another false start, and there may be another shoe to drop, but perhaps there are reasons
for just a little more optimism at this point.
And the general MSCI Emerging Markets Index also looks as if it may well have turned.
Emerging Bonds Start To Rebound Too
Emerging market bonds have also started to recover, if we look at the JPMorgan EMBI+ chart, we can
see what appears to be quite a robust “bounce back”. Of course for some countries (Eastern Europe,
Argentina etc) the worst is still not over, but India may well be relatively insulated from too much fall-
Not Much Sign Of A Rebound In Commodities Yet
On the other hand, with growth in the OECD countries likely to be bordering on negative in 2009, and
Russia and China both likely to have substantial slowdowns, there are not too many signs at this point
of any recovery in commodities, if we look at the Reuters-Jefferies chart.
But since India is a large net commodities importer, this is hardly bad news. Oil prices were sedentary
Friday following a large scale sell-off during the week, - and this despite a forecast from the
International Energy Agency that put the price of crude at $200 per barrel by 2030. Light, sweet crude
for December delivery rose 27 cents to settle at $61.04 a barrel on the New York Mercantile Exchange,
although the contract had dropped below $60 in earlier overnight electronic trading for the first time 19
months. This is all now a far cry from June, when oil was trading at $147.
India’s Foreign Exchange Reserves Continue to Fall
India’s foreign exchange reserves declined again at the end of October - for the sixth consecutive week
- and fell by $5.532 billion to reach $252.883 billion for the week ended October 31. India’s reserves
have fallen by more than $31 billion in the past one month alone, and are now well below their $318
billion April peak. But on the other had they are still substantial and not far different from what they
were 12 months ago, following a very substantial rise over the previous nine months. So if they do not
fall too much further, then it isn’t evident that there is any real problem at this point.
Sustained dollar selling by the Reserve Bank of India in the forex markets, huge amounts of FII
outflow from the domestic equity markets, and the revaluation of the reserves have been the main
factors pressurising India’s reserves, but all these factors are symptomatic of the general pressure which
has come to bear on “higher risk” emerging market economies as a whole as the financial turmoil and
associated uncertainty have raged in the United States and Europe, and there is little real evidence of
“India specific” factors at work here, indeed Indian exceptionalism would rather be in the fact that -
absent commodity export dependence - India’s reserves have not been taking the same sort of pounding
Russia and Brazil’s have.
The Reserve Bank of India (RBI) also said on Friday that it will lend foreign exchange - via foreign
excahnge swaps - to banks with overseas operations to help them meet their lending requirements, a
move that many Indian banks had been asking for, and which should help ensure adequate funding for
their foreign subsidiaries. Following the central bank’s announcement, banks will buy dollars from RBI
at the reference rate plus three-month forward premium and will return dollars to RBI after three
months, in case of three month swaps.
Additionally, the central bank has also extended a lifeline to banks for funding the swaps by allowing
them to borrow through its regular liquidity adjustment facility (LAF). The LAF is the window through
which it lends to or accepts money from banks, for the corresponding period at the prevailing policy
Banks borrow through the LAF window by pledging government bonds. They are required to invest at
least 24% of their lendable funds in government bonds; this portion of their deposits is called the
statutory liquidity ratio, or SLR. In view of the tight liquidity conditions, RBI reduced the SLR by 1%
to 24% on 1 November. RBI also said on Friday that if a bank did not hold enough government
securities to pledge, it would consider relaxing the SLR requirement if the bank approached it.
The use of swaps helps banks obtain cheaper funds for buying dollars because they can now borrow
from the central bank repo window at 7.5%. Previously banks needed to convert their rupee deposits -
raised at a rather costlier 10.5-11% - into dollars.
India’s Industry Resists The Global Slowdown
Despite the fact that India’s industrial output plummeted to a 1.3% year on year rate in August, there
are some signs that the situation may be improving. The first of these are the September performance
indicators for the coal and cement sectors, the rise in which pushed up the growth in output in the core
infrastructure industries to 5.1% in September. According to government data made public on Friday,
coal production was up by 10.7% in September 2008 while cement production rose by 7.9%.
Core sector growth in August was just 2.3% - and the six core industries have a weight of 26.7% in the
index of industrial production (IIP). On the other hand growth in electricity generation remained
weakish - at 4.4% - in September. If compared with the growth rate in August this year, electricity
generation was the worst performer among the six sectors, with an abysmal growth of 0.8% in August
2008. Of the six core industries (crude oil, petroleum refinery products, coal, electricity, cement and
finished carbon steel), only coal and cement really registered strong growth rates in September 2008.
So I guess we have to wait till mid-week now to see the complete September figures.
However, despite what may well turn out to be an improvement in September IP over the August
number, it does looks very much as if activity at Indian factories fell to its lowest level in three and a
half years in October as the global financial crisis and slowing export demand hit the country’s
manufacturing sector. The ABN AMRO Bank purchasing managers’ index (PMI), based on a survey of
500 companies, slumped to a seasonally adjusted 52.2 in October, its lowest since the survey began in
April 2005 and sharply below September’s 57.3. A reading above 50 signals expansion while a figure
below 50 suggests contraction, and the manufacturing PMIs are interesting, since they do offer us a sort
of “real time” snapshot of what is actually happening.
“The outlook for the manufacturing sector appears to be bleaker in the backdrop of tough
local and global economic conditions,” said ABN AMRO Bank N.V. senior economist
So the point here would not be that Indian industry is in absolutely perfect condition (it is obvious that
it isn’t), but rather that, at a time when global manufacturing generally is taking a huge beating, Indian
industry is hanging on in, by its fingernails, but it is hanging on in.
In comparison, the JPMorgan Global Manufacturing PMI posted 41.0, its lowest reading since data
were first compiled in January 1998 and a level below the no-change mark of 50.0 for the fifth month
in a row.
Output, total new orders and new export orders all contracted at the fastest rates in the
survey history in October. With the exception of India, which again bucked the global
trend, all of the national manufacturing surveys posted declines in output and new orders.
The impact of the downshift in global market conditions also had a far-reaching effect on
international trade volumes. Although new export orders fell at a slower rate than total new
business, all of the national manufacturing sectors covered by the survey (including India)
saw a reduction in new export orders.
“October manufacturing PMI data reinforce the stark retrenchment that the sector is
currently facing, with production, total new business and new export orders all falling at
record rates. The latest Output Index reading is consistent with a fall in global IP of almost
8%. The only positive from the surveys was a decline in input prices for the first time since
David Hensley, Director of Global Economics Coordination at JPMorgan
Returning finally to India, perhaps somewhat significantly the export order index in the PMI survey
contracted for the first time in the survey’s history, coming in at 49.7 in October, compared with 53 in
September. Manufacturers blamed poor global financial and economic conditions for the result. But
this should not surprise us too much either, since India’s exports grew at their slowest pace in 18
months in September. Overseas shipments, which constitute about 15 percent of the Indian economy,
were up 10.4 percent (to $13.7 billion) from a year earlier, following a 27 percent gain in August.
Imports also increased - by 43.3 percent to $24.4 billion, with the result that the trade deficit widened
to $10.6 billion.
“The global financial and economic headwinds adversely affected foreign demand for
Indian manufactured goods,” said Gaurav Kapur, an economist at ABN Amro Bank in
Mumbai. “The growth of total incoming new work to the Indian manufacturing economy
lost considerable momentum.”
So, in conclusion, I am not saying that everything in the Indian garden is simply perfect, rather I am
simply pointing out that during times which are hard for everyone, India has some advantages to lean
back on, and looks set to have a lot less serious downturn than many other emerging economies may
experience. So to end, almost where I started, with CLSA’a Sharmla Whelan, I do expect the Indian
business cycle to be the first to bottom in Asia, and I would most certainly agree that “it should, in
theory, be first to emerge”.