US recovery implications

Last week, President Barack Obama said it was America, not India or China, that was the “world’s most attractive place to invest”. The claim has some basis. The US economy grew at an annualised rate of 4.6 per cent during the April-June quarter, while its unemployment rate fell to 5.9 per cent in September, from the 10 per cent levels reached in October 2009. The current year has seen an average 230,000 non-farm payroll jobs being added every month, as against the 750,000-odd lay-offs in the late-2008 to early-2009 period. The US, in short, has recovered from the severe economic crisis following the collapse of Lehman Brothers. Not only has the country, in Obama’s words, “put more people back to back than Europe, Japan and every other advanced economy combined”, but its 4.6 per cent growth also probably makes for a more compelling story than India’s 5.7 per cent on a much lower base.

But economic revival in the US would also mean that the Federal Reserve may start raising interest rates — from the 0-0.25 per cent target range since December 2008 — much earlier than expected. Rising rates, in combination with strong growth performance relative to other economies, will make the US the preferred destination for foreign funds. That the dollar has so far this year appreciated 8.9 per cent against the euro and 3.1 per cent vis-à-vis the yen — not to speak of most emerging market currencies — is only an indication of this reversal of fund flows back to the US happening now. Although the rupee has held itself more or less steady at around 61.5 to dollar, there has been a noticeable reduction in net foreign portfolio flows into India over the last couple of months.

While higher interest rates in the US can potentially hurt our economy, the impact need not be as bad as last year, when the Fed first talked of tapering its monthly bond-buying programme. For one, India’s current account deficit has fallen significantly, which makes the rupee far less vulnerable to speculative attacks of the sort we saw during May-August 2013. Secondly, a US economy rebound by itself is good news for our exports. Third, the Fed’s monetary tightening may well be offset by the simultaneous loosening of policy by the European Central Bank and Bank of Japan. Their printing more money in response to recessionary threats could help fill the global liquidity void created by the Fed’s withdrawal of quantitative easing before this year-end. Ultimately, what matters is the economy’s underlying strength, both in terms of macroeconomic stability and growth prospects. Right now, India is well placed on the first count; softening world crude prices only makes things better. The real challenge is on the growth front. If we start growing again by 7 or 8 per cent, global money will chase India.

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