The Hindu Business Line : `US slowdown can result in greater outsourcing of jobs'

Chennai May 3 One of the hotly debated issues in investment and business circles is the reported slowdown in the US economy and its impact on the Indian economy, given the fact that the US is India's largest trading partner.

Dr Shanto Ghosh, Director and Principal Economist, Deloitte, Haskins and Sells, is of the opinion that while the immediate impact is likely to be small, the long-term impact may be negative.

He attributes this to India, like several other developing economies, sharing deep ties with the US economy.

Speaking to Business Line on the likely impact of a US slowdown on Indian industry, he says that the net effect of the development must be measured over a reasonable time horizon.

"The US may have slowed, but the downshift hardly represents a major derailment of the world's major growth engine."

According to him, persistence in the key economic indicators will nonetheless have a perceptible impact on Indian industry.

His point is buttressed by a recent Goldman Sachs report, which says that India is at a "greater risk than Brazil, Russia or China in the event of a slowdown in the US economy."

The report also said that though India's exports to US are only 18 per cent, compared with 31 per cent for Asia and Japan, the country is at greater risk since exports to the US "are concentrated in jewellery and precious metals, suggesting that its trade may be fairly vulnerable to a slowing US consumer."

Many US-based MNCs have developed close ties with India in the services sector by locating back-office and routine activities to avail themselves of lower costs.

"The increasing volume of institutional investment in Indian stock markets also creates an additional layer of bonding between the Indian and US economies."

However, the silver lining, according to Dr Ghosh, is that increasing pressure on American companies to cut costs and improve operating margins in the face of a slowdown will actually result in greater outsourcing of jobs to low-cost destinations such as India.

"This will benefit the vast and expanding outsourcing industry in India."

The general doomsaying began when reports began trickling in of steep contraction in residential construction expenditure over the last three quarters of 2006, which is seen as a primary indicator that the US economy is slowing down.

Consumption growth sustain

However, real consumption still grew at an average annualised rate of 3.2 per cent - down only 0.2 percentage points from the growth pace of the preceding three years.

Moreover, latest data for the first few months of the current year suggest that consumption growth has managed to sustain the pace.

"The fall in housing construction has indeed knocked an average of one percentage point off real GDP growth and reduced demand for foreign sourced construction materials, but that in itself is hardly a major challenge to growth elsewhere in the world economy," says Dr Ghosh.

Sector-specific

According to him, as long as the US slowdown remains confined to sector-specific developments such as housing, the chances of a "more severe stalling out" of the American growth engine are lower.

Consequently, the probability of a more broadly based global slowdown is lower.

"However, falling household income from declining housing prices may have an impact on household consumption," he adds.

"It is then that the slowdown will impact US trading partners such as India."

Labour market

A March labour market survey reflects brisk employment and falling joblessness.

"This underscores the ongoing resilience of labour income generation and consumer purchasing power in the US," says Dr Ghosh.

But, he adds: "Business capital spending has been weakening a bit in recent months, though it has been concentrated in equipment."

How persistent is the slowdown likely to be?

"Market forecasters predict that the current trend on housing will continue well into 2007, but the persistence will depend on several other factors," says Dr Ghosh.

Inflationary pressure

Data for the fourth quarter suggest signs of increased inflationary pressure in the economy.

"While the price index for consumer spending rose at 2.6 per cent annual rate in the fourth quarter, compared with 3.7 per cent in the preceding quarter, the core PCE index, which strips out volatile food and energy costs, suggests that inflation is filtering into a variety of other prices."

According to him, this may translate into another interest rate hike, which may have yet another dampening effect on business investments.

Government spending

The other source of weakness during the fourth quarter, he points out, was Government spending.

"It contributed to overall economic growth in previous quarters. But in the fourth, it fell to 2.4 per cent, the largest drop since the first quarter of 2000." Hence, there is uncertainty regarding the longevity of the economic slowdown.

Dr Ghosh adds that a continuing decline in housing prices, coupled with falling business investments, will undoubtedly have a negative impact on the GDP growth rate of the US.

"This cannot bode well for the world economy, for which the US serves as the engine of growth."