2013 outlook: Period of uncertainties, mixed cues

Moses Harding
IndusInd Bank

Period of uncertainties and mixed cues....miles to go for bullish confidence
Little bandwidth for financial/monetary support to spur growth

The set up of gloom and doom in the Global economy since 2009 is diluted but cues do not signal early turnaround for better! The authorities in the developed western economies have done their best to prevent global economic crisis through very accommodative financial and monetary regime; huge amount of money has been pumped into the system to maintain excess liquidity in the financial market while keeping interest rates at near zero levels to encourage investment and consumption. More importantly, the political system and monetary authorities are seen together with the Government to arrest downside risks on the economy and to get it back on track to the pre 2009 period. The asset markets in the Western economies have recovered sharply from the low of 2009 but way to go to scale the highs of 2007-2008. It would need quick turnaround in growth momentum while managing the side effects from severe pressure on fiscal deficit and public productive expenditure.

The Government exchequer is already dried up to prevent financial and sovereign crisis and now find it difficult to make both ends meet. There is severe pressure on growth across US, UK, and the Euro zone exerting strain on fiscal health; measures are already on to cut costs (and public expenditure) and increase revenues through tax hikes. The agenda is to tax the “rich” (and affordable) without causing hurt to the middle/lower income class. Having come a long way since pre 2008 golden era, it will be prudent to assume that the worst is behind but the best is distant away given the longer lag time for recovery. Investors have moved into “risk-on” mode with shift in appetite from developed economies to emerging markets. There is no incentive to stay in cash or in low yield sovereign assets when downside risks on the western economies are significantly diluted. The resultant flow of liquidity into emerging markets will complement growth momentum in the western markets. Over all, there is nothing to fear but need patience to allow gradual improvement into 2007-2008 levels and thereafter to build bullish momentum. There is confirmation from the monetary authorities of Western economies to maintain very accommodative monetary policy till 2015 to support growth, investments and consumption.

The India story is unique and peculiar. While emerging markets have maintained their financial and monetary system in pro-growth stance since 2009, Indian economy shifted into anti-inflation stance through high interest rates and deficit system liquidity. Since then, macroeconomic fundamentals have turned worse with severe pressure on growth momentum (down below 5.5%) and high fiscal deficit (up above 5.5%). To make things worse, external dynamics (through high commodity prices, reduced exports and weak rupee) put pressure on current account deficit (up above 3.5%) and fuel subsidy (up from 1.2% to 2.5% of GDP despite regular fuel price hikes). Over all, the positive impact on inflation from tight monetary policy was significantly diluted by high twin deficits and supply side bottlenecks from low investments and poor demand for credit. The conflicts in growth-inflation dynamics pushed the system into “drift” mode with hope of “manna from the blue” for resolution management.

The concerns are from (a) lack of co-ordinated efforts from political system, the monetary authority and the Government, raising concerns on policy paralysis, fiscal consolidation and growth; (b) absence of credible plans to protect economic interest from commodity price risks and lower external demand for India’s goods and services; (c) inability to provide resolutions to structural current account deficit issue, adding to pressure on exchange rate and (d) lack of vision to ramp up domestic capacity. Indian economy is the worst hit despite limited “globalisation” and it would need serious efforts to provide resolutions (to these concerns) to protect Indian economy from adverse external forces. Till then, macroeconomic fundamentals of the Indian economy will stay volatile and out of control being at the extreme ends, either very bullish or extremely weak.

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