‘It looks like the US Fed will have to resort to another dose of liquidity pumping or QE-3. Its impact, however, is debatable’. Ritesh Maheswari, managing director and lead analytical manager, Asia Pacific, for Standard & Poor’s talks to Rajesh Bhayani on the US debt rating and the Indian growth scenario. Edited excerpts:
Can we say the worst is over for the US, for now?
At S&P, we have analysed three scenarios that can take place in the US. One was the possibility of the US defaulting, now ruled out for the time being. Other scenarios were of US debt issues getting resolved in a time-bound manner and of debt issues keep on hanging and a deficit not falling soon. However, the possibility of a US sovereign rating downgrade by one or two notches cannot be ruled out. If the rating is downgraded by a notch now, it may fall further and even if there is no downgrade now, it does not mean that it could not be downgraded in future. This will be an ongoing decision process.
If the US may still lose AAA status, what could be the impact?
Only marginal. Those who have invested in the US treasury, that being AAA rated, will find no better alternative to invest, and the impact on the global economy may also be marginal. For investors, be they central banks or any other, there are no big alternative AAA assets. Countries like Switzerland, which has an AAA rating, are not big enough in size to become an alternative to the US. The real difference will be for US money market funds, which very accurately follow changes in yield and continue to pay dividend. For them, a fall in US rating, even by a notch, will result in a loss in valuation in bond portfolios and that will be a real loss.
To summarise, a downgrade for US ratings could have only marginal impact, as we don’t think the world will become bearish just because of that. But if the world’s other economies turn bearish, then things will turn for the worse but we don’t think that could happen.
If one goes by the debt issues the US is facing, then QE3 (a third round of quantitative easing is ruled out, as the US government won’t have funds to pump in.
Only the US Federal Reserve can say that. So far, there are no signs of another QE (pumping more liquidity) coming. QE-1 resulted in improving sentiment but if you look at QE-2, it was more effective for markets rather than resulting in consumer spending and resultant economic growth. However, the Fed will have to take steps to revive consumption and growth. Interest rates being so low, there are no options left but to resort to another dose of liquidity pumping or QE-3. Its impact, however, is debatable. But the issue is not off the table yet.
Debt issues are haunting other parts of the world, like in Europe. How will that hurt countries like India?
In the past couple of years, it has became a two-speed world. The developed world like Europe, the US, etc, have seen sluggish growth, while emerging markets led by China and followed by India are growing much faster. Overall, people in the developed world have became risk-averse, while countries like India, where a large part of the growth is domestic-driven and less dependent on exports, will be least affected. The impact on India will be confined to some sectors where exports to debt-ridden countries are higher.
Inflation has been another area of concern for the world. How do you see that impact tapering?
Inflation has three parts. Crude oil price-driven inflation is one where we don’t see prices going sky-rocketing as in the last crisis. The cartel has understood that very high prices could hurt even them, so they will play restrained. Food prices are high, which is worrying.
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High prices of other commodities is the third part of inflation and good demand in emerging markets will support commodity prices but if exports to debt-ridden regions are affected, to that extent commodities’ demand will fall and, in turn, could have a softening effect because this is a linked world.
How is India placed vis-a- vis China?
Both the countries have good growth outlook, the banking system in both are simple, regulations are prudent. However, China’s investments in infrastructure and manufacturing have been financed more by banks than the capital market. That way, the Chinese economy is more leveraged than India. As Chinese banks are under the government, their margins are protected, which is not the case in India, where banking is competitive. Hence, the banking system in China is a weakness; in India, that is the strength.
India has been hard on liquidity tightening, making it costlier, while there are also complaints of policy paralysis. How do you observe these developments?
I think India’s central bank did its best in the case of money management and not letting go things out of hand. It can do further reforms but that will have slower impact. From the government side, nothing much has been happening. There are governance issues and reforms have also met with a bottleneck. There is a lot the government can do on the policy front.
