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Business News/ Opinion / Online-views/  A new wobble for the emerging markets
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A new wobble for the emerging markets

There is an incipient recovery on the cards but India could still have to face headwinds from the global markets

Multilateral lenders World Bank and International Monetary Fund have said that the global economic recovery will be led by the rich countries, despite the shadow of fiscal austerity. Photo: BloombergPremium
Multilateral lenders World Bank and International Monetary Fund have said that the global economic recovery will be led by the rich countries, despite the shadow of fiscal austerity. Photo: Bloomberg

Earlier this month, the Washington sisters said that the global economy was on the mend. The World Bank said it expects global growth in 2014 to be far more robust than it was in the previous year. The International Monetary Fund (IMF) said something similar. Both multilateral lenders added that the global economic recovery will be led by the rich countries, despite the shadow of fiscal austerity.

Their prognosis for the developing countries was not too bad either. The World Bank forecast for India in the coming years is noteworthy. It predicts that the Indian economy will see its rate of expansion go up by 2.3 percentage points over the next three years. This welcome acceleration will shrink the growth differential between India and China to a sliver by 2016.

Such forecasts added to a general mood of optimism about global economic prospects this year. The risks are well known: fiscal austerity in many rich countries, structural problems in China as it tries to re-balance its economy, the anaemic recovery in Europe and, perhaps, the biggest threat of all—the gradual exit from quantitative easing by the US. These risks are not a surprise.

The World Bank uses the terminology of baseball to depict the impact of tighter monetary policy in the US as a curve ball; the cricketing nations would perhaps call it a googly. The middle of 2013 was marked by panic selling of emerging market assets in reaction to the prospective reduction in the pace of US monetary stimulus. But there was also an emerging view that the eventual impact would be far more benign than what most people expected six months ago.

As is often the case, the markets provided a rude reality check. A few emerging market currencies tumbled against the US dollar soon after the two powerful Washington organizations put out their latest reports on the global economy. On 25 January, Argentina’s peso saw its currency post the steepest decline since the economic crisis of 2002 because of a wave of selling. The Turkish lira fell to its lowest level ever against the dollar soon after, especially since the Turkish central bank had curiously decided not to increase interest rates earlier in January despite the fact that the currency had been steadily weakening through the month. Venezuela was forced to devalue its currency—which is not freely traded in the foreign exchange market—as the contagion spread to the high-inflation country. The South African rand was also battered.

The mild effects of the currency rout in many emerging markets were already being felt in India when this article was written. There were already worries that the domestic financial markets would see a repeat of the panic last seen during the manic months of July and August. What cannot be denied is that the Indian authorities have tried to correct the mistakes that led to the run on the rupee last year. The two most important developments: the government has managed to get the current account deficit under control, thanks to stringent import controls on gold, while the Reserve Bank of India (RBI) has managed to rebuild its war chest by offering banks an attractive swap for the dollar deposits they bring in. Neither such administrative controls nor hidden subsidies can be continued forever, but they deserve credit for trying to be better prepared for the next round of risk aversion in the global markets.

How does India compare with its peers right now? There has traditionally been a tendency for traders to see all emerging markets as one homogenous whole whenever there is a round of panic in the markets. The FT Alphaville blog has drawn attention to a research note by Capital Economics that, more realistically, seeks to put various emerging markets into different groups. This note says countries such as India and China face structural problems that require domestic policy solutions rather than being dependent on what happens in the rest of the world. That is a far better bucket to be in compared with some of the other categories: countries such as Argentina, Venezuela and Ukraine are victims of serial mismanagement; countries such as Turkey, South Africa and Chile have lived beyond their means; countries such as Hungary and Romania that still face the lingering effects of the credit bubble in their part of the world; and then there are the likes of South Korea, Mexico and the Philippines where the outlook is brightening.

If we are to go with this taxonomy of how risky various emerging markets are, then India is neither in a total mess like Argentina nor in a happy situation like Mexico. That is far better than the situation six months ago, when it found itself in what some investment banks began to call the Fragile Five: Brazil, Indonesia, India, Turkey and South Africa. But that is not enough reason to relax if emerging market assets continue to be battered. India is not out of the woods by any stretch of imagination, thanks to its high fiscal deficit, persistent inflation problem and political uncertainty in the election season.

The economic recovery in the rich countries can be good news for India because external demand can provide some relief at a time when domestic consumer demand is weak, government spending needs to be tightened as part of a programme of fiscal discipline and investment spending by companies has collapsed partly because of policy muddles. The fall in the rupee in the middle of last year will also help exports.

There is perhaps an incipient recovery on the cards but the Indian economy could still have to face headwinds from the global financial markets.

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Published: 31 Jan 2014, 01:11 AM IST
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