Speaking to CNBC-TV18 Morgan Stanley's Ruchir Sharma said we live in a world that is madly disrupted by the crisis of 2008. A few trends have been playing out since then. Brexit has been a big manifestation of that trend, said Sharma."There has been a revolt that has been taking place against the establishment everywhere," he said.
Earlier 2 out of 3 incumbents were getting re-elected, but now only 1 out of 3 are getting re-elected. It was a big miscalculation on the part of the British Prime Minister to call for a vote on the EU membership, he said.
On the possible Brexit impact on countries like Netherlands, France and Germany, he said incumbents rae likely to keep losing rounds. But it is not always for the worse. As in Latin America, a regime change has resulted in business-friendly people coming in place of leftwing politicians, he said.
Another trend that Sharma identifies is deglobalisation. Today, countries are turning inwards, he said.
The third big trend is income inequality, he said.There could be a recession, he cautions, but that is like night following day. Every eight years, there could be a recession, he said.
Valuations aren't a bad judge of how a country performs, he said. But what is important is which country surprises on the upside in terms of the economy growth. "That is a predictor of returns," he said.
India is a country which disappoints the optimists and the pessimists, he said. The weight of expectations are weighing on the country, which was not the case for Russia and Brazil which have grown well.
He doesn't think there will be capital inflows into the country or into EMs. And the biggest contributor to low inflows is slower crossborder bank flows, he said. "European banks don’t want to to raise their EM exposure," he said.
the markets have been a step ahead of the US Fed, second-guessing its moves. "There is no surprise elemen left here," he said.
Central banks are beginning to see that there are limits to monetary policy actions. "Asset prices have gone up more than economic activity and it leads to resentment among middle income groups."
On RBI governor Raghuram Rajan opting out of a second term, he said it has rankled a few people, but the Indian economy is looking a lot calmer now. He said the government hasn't done enough to withdraw from public sector, adding that what is happening with the restructure of bank loans isn't enough.
Below is the verbatim transcript of Ruchir Sharma’s interview with CNBC-TV18's Shereen Bhan..Q: I will talk to you about the book in just a second but let me ask you what everybody is talking about and that is Brexit and what it now means as far as the global economy is concerned, what it means for global equities. How concerned are you about the implications of the Brexit. People are still trying to grapple and fully come to terms with it?A: What is really going on here is that this is a world badly disrupted by what happened in the 2008-2009 financial crisis and there are few trends which have been playing out since then and Brexit is really the manifestation of those trends. What are these trends? One, that we are seeing global revolt against leaders everywhere in the world and so, it is very popular to talk about the fact that Brexit is just about leave or remain in United Kingdom but there is a bigger political picture here which is the fact that there is a revolt against the establishment to be taking place across the world in many countries. So, we track the popularity ratings of the 20 largest countries in the world and the popularity of the leaders there and that is currently at an all time low.Q: Across the board?A: Across the board, I mean the average. And what that is really telling you is if you really come in the way of the voters by being in power you are likely to be thrown out. And that is the big turnout from last decade. Last decade our work was showing that two out of three incumbents were getting re-elected. Now what we are seeing is that just one out of three incumbents are getting re-elected. So, the trend is accelerating.So, there is a big global revolt taking place and that is a big miscalculation that the British Prime Minister did which is that he mixed up domestic politics with this vote and this vote is as much rejection of him and the anger that the popular support against him as it is about the core issue of Brexit, this is one thing which has been under appreciated.
Q: But what does this then mean as far as the EU and the future of the EU itself is concerned. You were talking about incumbents not being voted back to power. Netherlands, Germany, France these are big elections that we are going to be faced with a couple of months down the road. What is the future then as far as the EU is concerned?A: The same pattern which is the fact that the incumbents is likely to keep losing ground everywhere but it is not always for the worse. This is an important point, because if you look at what is happening in Latin America. In Latin America what we are seeing is that the incumbents there are all getting voted out but the incumbents happen to be left wing leaders there. Instead who is coming to power in Latin America now are more business friendly market oriented people are coming to power in Latin America. So, this is a very differentiated picture, it is not the same picture everywhere.In Europe yes, this is happening but the main story is that the incumbents are getting voted out and it is not always the populists that are coming to power. This is one big trend. The other big trend which we are seeing across the world is deglobalisation. So, we all grew up in the 1980s, 1990s believing that this is a world which is going to get much more integrated, that people are going to trade much more, borders are going to open.Q: And it is at an all time low cross border throes at this point of time?A: Yes, that is right. In terms of both cross border capital flows have shrunk quite a bit compared to at least where they were last decade and even trade has begun to collapse. So, trade growth today is basically stagnant and that is the first time outside a recession that we are seeing such low trade volumes in the world. So, this is deglobalisation which is that countries are turning more inwards, protectionist barriers are going up everywhere across the world and this is something that we are seeing even in Britain. That is the resentment against it.The third big trend is income inequality. This is a very big deal because if you look at the voting patterns even in UK you will see that the places which voted to remain within the European Union were really the rich areas. They are relatively rich areas like London. But London has benefitted so much from globalisation and from the fact that you had such good flow of capital running through London.One important statistic that before the global financial crisis London's per capita income relative to the rest of UK was about 60 percent higher. Now it is more than 70 percent higher and similarly like London now is the home to one of the largest concentration of billionaires in the world. So, explosion in wealth which has taken place and that leads to resentment amongst the people outside about what is going on.Q: You used the word recession. Let me ask you this in the context of the recent developments now. Do you believe that the possibility of a global recession is higher today on the back of the Brexit?A: I would say marginally yes, because my own sort of thing has been that recessions follow expansion just like nights follow day. So, once every eight years or so we tend to have a recession. So, we should not be that surprised to get a recession. But I am not that convinced that what has happened in UK and the contagion of that for the rest of European Union may cause a recession partly because these economies haven't come to matter that much for global growth. Because they have been growing so slowly they haven't contributed that much to global growth. So, any changes in their economic growth rates do not have such a large impact.As my bigger concern over the last 12 months has been China and this is very important because even if you look at the Indian market the sensitivity to what happens in China today is much greater than let us say the sensitivity to what happens let us say with Brexit. Like when China was in a freefall in the late summer last year or then again earlier this year the Indian market had a much stronger negative reaction compared to what has taken place in the first few days after Brexit.Q: Since we are talking about markets let me ask you about what the outlook is in the context of the recent developments specifically as far as India because there is one camp that believe that we are largely insulated, that the story for India is looking good, we are an island of prosperity if I could call it that or an oasis in the desert as somebody else on the channel pointed out. But how would you look at India in terms of valuations, in terms of macro stability and what that then bodes as far as the markets are concerned?A: Yes, this is favourite sort of sell side trope of looking at valuations and one thing which I am convinced about is that valuations just done tell you anything about how a market is going to do. We have looked at it across the emerging markets universe and the valuation of one country versus the valuation of another tells you absolutely nothing about what is going to happen in the future. So, that is a very poor guy. What it does tell you about what is going to happen in the future is which countries surprise on the upside in terms of economic growth and which countries disappoint on the upside in terms of economic growth. That is the single most powerful predictor of returns over the next three to five years. And in that regards as far as India is concerned I agree with the general view that India looks relatively better compared to everybody else. But as you know my favourite line even from the book which we will speak about in a bit is the fact this is a country that has consistently disappointed the optimist and the pessimist. And that is something which I would keep in perspective as far as India is concerned that we all tend to get very carried away by our own talk here. There is an echo chamber where everyone comes here and says the same thing, our fundamentals are fine and stuff.Q: Is it overhyped today?A: I would say expectations are very high out of India. So, for example if you look at the best performing markets in the world this year they are Russia and Brazil because expectations were so low they were beaten down and they have risen. On India it is the weight of expectations which is something which is sitting on this market a bit heavily.Q: Who are we likely to disappoint today, the optimist or the pessimist?A: If anything at this stage it has got to be the optimist, just given how optimist people are about this country. But I still feel that on a relative basis from a fundamental basis from 3-5 year India does look relatively better. But for now I would say that we should be a bit careful about the fact that expectations are very high.Q: Let me also ask you very quickly about what you foresee now as far as capital flows into emerging markets in the context of the Brexit. Do you see it impacting significantly capital flows specially into countries like India?A: I think we should just in general expect lower capital flow. That is a fall out of the deglobalisation and the biggest contributor to lower capital flows today is that cross border bank flows have reduced significantly. So, you have much less bank lending going on between borders. European banks do not want to raise emerging market (EM) exposure or India exposure not because they have any view on that, just because they have turned much more inwards because they have problems at home. Same things with even American banks. So, these banks which lend so profusely to EM are not keep to that is just a reality.Having said that one place where we have seen a pickup in flows in India is foreign direct investment (FDI) flows. The FDI flows in India have picked up. In fact as a the share of gross domestic product (GDP) India is among the highest recipients of FDI flows in the world. So, flows are changing. The nature of flows is changing but in general India is likely to receive less capital flows in total because cross-border bank lending has collapsed across the world and that was the largest share of cross border capital flows last decade.Q: Before I come back and talk to you about India let me also ask you about US and how you see the US and specifically given what has happened do you believe that the possibility now of the Fed moving on hiking rates is not perhaps not something that we need to be concerned about. Is that over and done with?A: Nothing is over and done with but the markets are way ahead of the Fed, which is the markets never believe that the Fed was going to hike interest rates this year. They briefly priced in one or two rate hikes when the Fed seemed extremely determined to go down that path. Those expectations have now been stuffed out. So, I don't think there is any surprise element left here, I don't think the market expects the Fed to do anything for the next year or so and given how weak the global economy is I am not surprised at that conclusion.Q: Given the fragile stage of the global economy do you believe that central bankers around the world will continue to be even more accommodative?A: There is a limit to that because one thing that central banks across the world are beginning to realise is that there are limits to their monetary policy actions. One thing that we have seen and this is something which has been even true in UK that asset prices have gone up lot more than economic activity. And when asset prices go up a lot that does lead to a lot of resentment among the middle income and the poor people because they don't own these assets like stocks or bonds and those prices have gone up. Even high end property across the world has gone up. So, central bankers have to be a bit wary of the fact that they can keep pumping all those liquidity out there but where is it finding its way and if it keeps finding its way into asset prices that is a definite negative._PAGEBREAK_Q: Coming back to India and since we are talking about central bankers. In September we are going to see a change here at our own central bank with Raghuram Rajan heading back to the US. How is that being viewed in your part of the world. People talking about it, has it dented the perception of India in any form of action?A: It has but these things are very slow moving things and very intangible. You don't end up getting a riot in the financial markets because one person leaves because it never works that way. But it is sort of rankles with many people that why was this done and there is this quote in this book with a former central bank governor had given me during the east Asian financial crisis that central bankers are like tea. You only appreciate them when things are really hot and that is the thing that currently Indian economy was looking a lot calmer than it was in 2013. So, we see these personal changes and it doesn't seem to make such a big difference but it is only when the going gets really tough do we appreciate as to who is in the chair out there and that is something for us to keep in mind.Q: Your thesis on the ten parameters or indicators that you look at when you assess whether a nation is on the uptick or on the downward where would India stack up on the good, bad and ugly today?A: If you sort of break the 10 rules down we get a score of basically 4, 3, 3. Which is on 4 it stacks up relatively well on three in the middle and three clear negatives.Q: So elaborate that for us?A: On a relative basis I would say India looks better because today there are two things to keep in mind. One that no company looks good, 10 on 10. In fact that is rarely so and specially in today's world where growth is low everywhere. It is rare to see countries rank well but if you look at the 10 parameters where India ranks relatively well is that number one it feels cheap now which is that currency is much more competitive than it used to be and you can see that foreign investment is coming in partly attracted by the fact that India looks relatively cheap compared to many other countries. Now, it is not doing as well as Vietnam or Bangladesh as far as exports are concerned but Foreign direct investment (FDI) flows have picked up a lot and the currency feels cheap. So, cheap is good, India ranks relatively well out there.India also ranks relatively good as far as if you look at what is happening to the overall investment. The investments in the sweet spot in this country unfortunately manufacturing and private investment aren't doing well but at least India ranks relatively well as far as the overall sweet spots are concerned. Then the fact that India's debt levels haven't gone up much because the big problem in the global economy today is that debt levels in the post crisis world have gone up very significantly but in India's case debt levels haven't gone up that much and that is a significant achievement as well. So, I can keep stacking up like that.On the negative side as I said hype really worries me about India. The other thing which worries me is the rule on geography, the fact that India doesn't trade enough with the rest of its neighbours and very importantly the internal geography that the population is very concentrated in the five metropolitan cities and we just haven't seen the birth of enough new cities in India unlike China where we have seen birth of new cities. The other big problem I have in India as you know is hype. There is far too much hype as far as India is concerned compared to other countries and one thing I have seen from all the work we have done is that when a country is very hyped up then over the next five years it typically disappoints because expectations are too high and also the policy makers get a bit complacent, when they about town telling how they are growing at 7-8 percent there is a sense of complacency and arrogance which comes in.Q: Do you now believe in the numbers or not?A: Of course not. Those numbers like I always said are a complete joke. No one really believes those numbers. I don't think the numbers are being doctored. It is just incompetence. Like that old Indian saying if it ain't broke it until it is broken. That is what we have done with the GDP methodology which is that those numbers were at least credible. Even if they were not giving a good picture until the methodology have changed. Today they are making a basic mistake like GDP deflator being wrong or something being wrong out there that the overall real GDP number just seems completely ridiculous to most people who track these things and we get all these exotic arguments in India about why that is going on but again in other countries we don't hear these exotic arguments. Commodity prices are falling very sharply, that is what is pulling the deflator down and all these explanations that we get. But in other countries I just don't hear these explanations even though they are facing exactly the same global environment as India is facing with lower commodity prices. So, I don't believe in those numbers. But the more important part about India which is the real problem for is the fact that this government hasn't done enough to withdraw from the public sector or from many spheres of economic activity that India has the highest share of public sector banks in the world as a share of overall loans extended by the public sector. There is no other country like India where it is so dominated by the public sector the overall lending.Q: What do you make of the moves on that front, one there is the consolidation, the public sector bank (PSB) bank consolidation plan that the government is trying to move forward with, two, this business of trying to address these stressed assets that public sector banks are laden with. What do you make of the efforts on that front? A: I just don’t think that is enough. I think that is all minor stuff. No one is really making the bold decision and maybe it is too late for that. One of the aspect I speak about in the book is that the sweet spot for carrying out economic reforms for any new leader is in the first two years and especially the first 6-12 months. That is really when big reforms get carried out. Today for example, look at what is happening in a country like Argentina, it is coming back from the dead because the reforms that the leader there is taking out in the first three to four months, even at the cost of suffering big declines in is popularity are huge because he is looking at it from a five year perspective that where will I be five years from now. So, that is what this government should have thought about in the first 6-12 months that where I want to be five years from now. So, that is a huge missed opportunity with all the political capital to not have done something path breaking because everything is very incremental in nature. However, we just have to accept incrementalism at a time when like in the world today there are so few places where even reforms are going on, populism is on the rise. However, there are places like Argentina or other places which are showing the way that when you have the back to the wall, you can carry out some very serious reforms as far as things are concerned. So, I don’t think that what is happening here with the restructuring of the public sector banks is really meaningful enough. The ownership is a real problem and the one thing that the government just doesn’t sort of rely or at least doesn’t sort of communicate well enough is that if you do not privatise now, the value of these companies will just keep declining over time. Just look at what has happened to MTNL; in the last 15 years or so the value of the telecom stocks in India is up a 1000 percent in the private sector and the value of MTNL is down like 80-90 percent or so.Sector-by-sector you can go ahead doing this. Look at what is happening on the private versus public sector banks and this is the worst outcome because the only people who are benefitting the most from this are the private sector companies because they make supernormal profits when there is not enough competition out there and they are facing the public sector as competition. The consumer also doesn’t benefit fully because prices and services don’t improve in their favour quite fast enough. So, this is the worst case scenario, this privatisation by malign neglect where you basically have these companies which are still in play, the public sector companies, but the market shares are all being taken away by the private sector systematically. Q: What are the two or three things that you are going to be watching out for in the short-term as cues? A: I think that global cues still matter a lot and I think that in that regard it is a problem that asset prices across the world are very high in general and India is no exception to that. So, the fact that asset prices are very high puts some sort of a cap on equities across the world is what my feeling is. However, having said that, I still feel that India and other emerging markets can do better over the next three to five years because they have so dramatically underperformed over the last five years.In India’s case we have the tendency of looking at the Sensex and the Nifty in nominal terms but not in dollar terms or even in inflation adjusted terms because if you look at it in those terms, like in dollar terms, the Sensex and the Nifty are still well away from their multi-year highs because the dollar has sort of appreciated so much against the rupee and even inflation adjusted terms. So, we sort of tend to get lost in that a bit. However, to me the biggest fear still remains China and I think that those worries come and go but that really is my biggest fear because the amount of debt that China has taken in the last five to six years to sustain their growth rates is something that no developing country in history has taken. Just one statistic here to put that in perspective, that today in China, it takes USD 6 of debt to create a dollar of GDP growth in China. At the peak of the US housing bubble in 2008, it was taking USD 3 of debt to create a dollar of GDP growth in the US. So, that is really how severely indebted China has become today and just seems to be continuing down that path; there is no relenting on that. As I say that China’s growth trajectory is like a ping-pong ball bouncing down the stairs which is the fact that the trend is clearly down but every time the trend appears sharply down, they put some new stimulus, you get a lift which lasts about three to four months and then the downtrend resumes and I think that trend in China to me has not changed.
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