The Hindu Business Line : Growth, market setbacks temporary

The rapid growth aspirations of China, India and such others and the sheer size of global investment power will ensure that any setback is short-lived.

S. Balakrishnan

Decoupling of emerging markets from those of the G-7 is being shown for what it is – a myth. As the asset write-offs in global financial institutions – Citibank, Merrill Lynch, Morgan Stanley – gathered pace, stocks plunged. Naturally, India did not escape the carnage and by the end of last week, the Sensex broke below 19,000. After the euphoria of just days back, it was a sombre mood in the traditional post-Diwali Moorat trading.

Faced with nearly $100 oil prices, the Government is backing off from its earlier confident assurance that it will not pass through the increase to consumers. That could be the signal for a reversal of falling inflation in recent weeks, which, in the latest reading, dropped to sub-3 per cent levels.

Possibilities

The Reserve Bank of India might have to revisit and rethink some of its current assumptions – continuing capital flows, rising rupee and excess liquidity, if, as is likely, the US economy decelerates sharply with significant negative implications for its credit and stock markets.

Then, surely, ‘risk aversion’ will (re)assert itself, contracting flows to India’s shores and relieving the central bank of a solely exchange rate-focused monetary policy. It can revert to ‘type’ – calibrating liquidity and interest rates to the domestic economic situation.

There is every prospect of easing, not in the interest rate sense (immediately), but on the liquidity front.

Meanwhile, a clutch of banks has reduced deposit rates. Judgment must be reserved to the first quarter of 2008, when the full force of a cutback in Government spending for fiscal deficit purposes becomes clear. Rising money market rates could mean an early end to lower deposit rates.

Gloomy testimony

The Fed Chairman, Mr Bernanke’s Congressional testimony was gloomy, predicting a worsening economy and no inflation relief. Consumer confidence remains on a downward course. The trade balance is improving, thanks perhaps to the weaker dollar. However, the depth of the housing recession and consequential credit market turmoil (the spread between inter-bank rates and T-bills is around 175 basis points), will leave the Fed with no choice but to slash rates at its next meeting. A 50 bps cut even before might be necessary if incoming economic data is bad (enough). As it is, consumer spending (which is two-thirds of GDP) is weakening.

Villain

The (global) villain is undoubtedly oil. A price correction is long overdue but it has (so far) defied gravity.

The bright side is that the rapid growth aspirations of China, India and such others and the sheer size of global investment power will ensure that any setback is short-lived.

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