India appears to be on the path to recovery, as Diwali festival sales around the country seem to attest. The Confederation of All India Traders (CAIT) announced an overall sale of Rs 1.25 lakh crore during the festival—a record sales figure in the last 10 years as per the traders’ body announcement made a day after Diwali.
Consumption aside, industrial production too has witnessed growth. The quick estimates of the Index of Industrial Production reveal a 11.9% growth in August 2021 over the corresponding period last year, while the manufacturing sector has grown by 9.7%. The manufacturing Purchasing Managers’ Index (PMI) at 53.7 and the services Purchasing Managers’ Index at 55.2 in September 2021 indicate optimism regarding economic activity.
The Consumer Price Index-based retail inflation at 4.35% in September 2021 was not only a whole percentage point below its level in August 2021, but was also the lowest inflation rate in India since January 2021.
As regards the external sector, India recorded a surplus on its current account of 0.9% of GDP. The current account surplus recorded seems robust, coming as it did through a contraction in the trade deficit, increase in net service receipts and increase in remittances from Indians employed overseas, along with a decline in the net overseas investment income payments. To add to the current account surplus, high Foreign Direct Investments (FDI) and Foreign Portfolio investments (FPIs) ensured that India added $31.9 billion to its foreign exchange reserves in September 2021.
While the domestic economy seems to be well under macro-control, India would need to guard against external macro-developments that have the potential to derail recovery. We consider three such developments that could impact India, together with the channels through which such impact is likely to be experienced.
1. Higher global inflation: Both advanced economies (AEs) and emerging market economies have been experiencing higher inflationary pressures due primarily to elevated commodity and fuel prices. Central banks of both sets of economies have consequently started tightening their monetary policies to address such inflation. This has had the impact of increasing global bond yields, especially those of AEs, including the US. Higher bond yields have the potential to adversely affect India through multiple channels. One, the flow of capital into India’s stock markets through the FPI route would be affected, since global investors would find it more lucrative to invest in AE bonds, affecting India’s balance of payments. FPI is not the most desirable form of capital flow because of its volatility; but FPI when into equity does constitute a desirable capital flow. Two, it would lead to a depreciation of the rupee, with its attendant risks of making our imports even costlier. Three, companies that depend on external borrowings would find their borrowing costs higher, affecting their returns. More importantly, a depreciation of the rupee would further weaken their position since borrowings in US dollars would pinch them harder.
2. Economic Recovery in America: The US reported less than 300,000 jobless claims filed in the week ending October 9—the lowest since the beginning of the pandemic. Such figures, together with its inflation data that showed a 13-year high of 5.4% in September 2021, point towards economic recovery in the US. The latest development of America passing a $1 trillion infrastructure bill to ramp up its highway, broadband and infrastructure is likely to aid US recovery further, creating jobs and boosting that country’s competitiveness.
Prospects of a recovery have already led the US to announce its decision to start winding up some of its emergency stimulus measures introduced to tackle the pandemic-led recession, starting with the tapering of its monthly bond-buying programme. In October, the US Federal Reserve had indicated that such tapering may commence from mid-November, with the Fed cutting its $120 billion per month bond buys slowly. The Fed indicated recently that it would start by cutting $10 billion a month in Treasury bond and $5 billion a month in mortgage-backed securities—a total reduction of $15 billion per month. Such recovery and the resultant tapering would also affect US bond yields. The bond yields have already risen from 0.91% at the beginning of 2021 to 1.549 % in November 2021. The US tapering is likely to harden bond yields further, with its attendant results for India.
3. Chinese slowdown: China’s GDP growth in Q3 2021-22 slowed to 4.9%, which was below the 5.2% forecast. With the massive fuel crunch that is affecting the country’s growth, the systemic crisis in its real estate and construction sectors, and the government’s crackdown on top companies in order to address income inequalities and make firms fall in line, business sentiments and consequently growth have suffered. The Chinese slowdown could hit India through the trade channel, given that New Delhi’s two-way trade with Beijing in 2021 was substantially higher than the pre-pandemic levels. Bilateral trade with China was up by 29.7% in the first nine months of 2021, compared with the same period in 2019. India’s exports increased far more (by 64.5%) compared to its imports, which rose by 21.5%. In fact, India’s trade with China is expected to cross the $100 billion mark by the end of 2021. Even for China, the growth in trade with India has been among the fastest compared to its other major trading partners.
These global macro-developments, with their potential for spillovers and spillbacks, will have to be cautiously monitored by Indian policymakers and factored into policymaking, even as they pursue their goal of “maintaining price stability while keeping in mind ... growth”.
(Views are personal)
Tulsi Jayakumar
Professor, Economics & Chairperson, Family Managed Business at Bhavan’s SPJIMR
(tulsi.jayakumar@spjimr.org)