We are bullish on India in medium to longer term: Hugo Erken, Jan Lambregts

Modi's unconventional measures like demonetisation,GST have been implemented a bit hastily: Erken

India is the emerging market (EM) to watch, given its enormous growth potential, say Jan Lambregts, managing director and global head of financial markets research at Rabobank International, and Hugo Erken, its senior economist and country analyst for North America, Mexico and India. In an interview with Puneet Wadhwa, they chart the road ahead for global financial markets. Edited excerpts:

What is your reading of the global geopolitical situation?

Lambregts: Global financial markets have been reacting in a relatively calm manner to the developing situation in North Korea. Even looking at the Kospi, or Korean won, the reaction’s relatively muted, given the level of involvement and extreme potential consequences. Actors in these markets find it nigh on impossible to correctly price the extreme tail risk involved of a military conflict. 

Should one buy the dips then?

Lambregts: It’s hard to argue there now is a great opportunity to buy on dips. Central bank liquidity is still abundantly skewing the game in favour of equity gains (and offer insurance in case of sell-offs), so the background remains relatively favourable. Yet, if indeed, we see the continuation of the North Korean tensions in the economic sphere, that is, sanctions on China and the risk of an actual trade war, which would hardly be a possible risk for global markets. 

What are the near-to-medium term implications for the currency market?

Lambregts: Specifically from the situation in North Korea, you’d expect the Korean won to trade with a weaker edge and the US dollar (USD) to trade with a stronger bent. I don’t think there necessarily is a big impact on rupee, other than a general risk-off move putting the currency mildly on the defensive. People may be surprised the USD could actually stand to benefit or at least hold up reasonably, but this is because even with the US a key actor, the USD’s safe-haven properties may dominate. 

How are you viewing developments in India from an investment perspective?

Erken: India, in my opinion, is the EM to watch given its enormous growth potential. We ran some scenarios earlier this year what would happen if India would be able to foster productivity growth and came up with really impressive numbers, even in a relatively conservative scenario. If India would be able to implement an innovation and education agenda, economic gains could be as high as $3.1 trillion in 2025. In this sense, the Modi administration is doing a really good job with its focus on more infrastructure investment, fighting corruption, launching the ‘Make in India’ campaign to attract foreign direct investment, and taking bold measures such as demonetisation and goods and services tax (GST) in order to broaden the tax base, digitalise and formalise the economy and streamlining the complicated and cascading tax system. So, we are fairly bullish on India in the medium- to longer term. 

But the recent Reserve Bank of India figures on note ban suggest the exercise may have been futile. Your thoughts?

Erken: Modi’s unconventional measures (that is, demonetisation and GST), although necessary, perhaps have been implemented a bit hastily and India now is paying the price, as even private consumption growth is subdued. We were highly surprised by the fact demonetisation did not show up in Q4 last year (CY17), but have always kept in mind the Indian economy will suffer eventually, which it did in Q1 (CY18) with only a 6.1 per cent growth (year-on-year).

That said, India still needs to pull off quite a vast amount of reforms, which will be a challenge given the deadlock situation of the Bharatiya Janata Party (BJP) in the Upper House. I don’t expect the BJP to get a majority in both Houses anywhere before 2022, given the speed and magnitude with which the party is winning seats in the state elections. 2022 would be quite late, however, given that the labour market and land acquisition reforms are desperately needed. Other worries are the very high bad loans at banks, especially the state-owned.

What are the key risks for the global financial markets from here on?

Lambregts: A few risks are worth highlighting: One, indebtedness hasn’t gone away; the level of indebtedness globally is actually higher now than it was at the start of the financial crisis; two, significant risks loom in the Chinese economy, which needs to change its debt-driven growth model, but finds it hard to take short-term pain for long-term gain; 3three, central banks are taking a big gamble trying to normalise rates after a long period of extremely accommodative monetary policy; we understand they may feel like time’s running out until the next recession hits, but if they get this wrong they will be the cause of the next recession; four, the US taking aim economically at China, possibly triggered by North Korea tensions, continues to risk a broader trade war.