India’s post-Covid economic recovery has been somewhat subpar so far and twin deficits — current account deficit (CAD) and gross fiscal deficit (GFD) — are well above the comfort levels even without factoring in any potential energy price ‘shock’, according to a Kotak Securities Ltd (KSL) report.

The report emphasised that the Indian economy is too interlinked with the global economy for economic or market decoupling in reality. “A global slowdown will have severe repercussions for India’s Balance of Payments (BoP) through (1) lower exports, meaningful slowdown of late and (2) lower capital inflows.

“At the same time, imports may stay high, especially if energy prices were to stay high; no respite in the past few months. A global slowdown may or may not affect global energy prices given the dominance of supply-side factors (global geopolitics among several other) for energy prices,” per the report put together by KSL’s team lead by Sanjeev Prasad, Managing Director and Co-Head.

Sub-par recovery

The report’s authors (including Anindya Bhowmik and Sunita Baldawa) noted that the strong outperformance of the Indian market over the past few months and in the past fortnight probably reflects the investors’ belief that the Indian economy is in a relatively stronger position compared to other economies.

“This may be true for growth but not so much for other macroeconomic parameters . Also, India’s post-Covid economic recovery has been subpar so far.

“We see recovery in household and private capex (PLI-linked production will start in earnest from FY 2025) but our earlier excitement has subsided a little given global slowdown and domestic inflation issues,” the authors said.

Growing twin deficits

The report also noted that the positive sentiment for the Indian market may also reflect a somewhat ‘detached’ view of India’s growing twin deficits given the disproportionate focus on growth.

For calendar year-end 2022, India’s CAD/GDP (3.1 per cent) and GFD/GDP (9.9 per cent) are estimated much higher than other economies’, per KSL’s assessment.

“Both have deteriorated meaningfully over the past few years and elevated energy prices have cut India’s foreign currency (FC) reserves. A few years of such high twin deficits could pose medium-term challenges for the economy through elevated government borrowing and steady decline in FC reserves,” per the KSL team.

The authors observed that, though the recent decline in global oil prices may have improved India’s near-term macroeconomic outlook, the global energy outlook is quite uncertain. “We would not rule out energy price ‘shocks’ in the next few months” warned the authors.

Higher-for-longer inflation

The authors said they were not sure if the Indian market is factoring in risks from short-term factors such as higher-for-longer inflation unlike other markets.

“Indian market valuations are quite expensive. Earnings yield is low relative to the bond yield when compared with periods with similar levels. Lastly, increasing medium-term risks linked to climate change and geopolitics warrant higher cost of equities” they said.

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