)
The finance ministry today said that the US Federal Reserve's decision to trim its monetary stimulus will not affect the Indian markets and all steps would be taken by the Reserve Bank of India and the government to ensure stability. The statement was released after the BSE Sensex had fallen by over 200 points.
But the finance ministry has few options. What steps can it take to protect the markets? Will it pump in money to prop up the markets or go on a road show to bring in new investors?
It is a known fact that the only reason the Indian market as well as other global markets have moved up in the last five years is because of the quantitative easing (QE) measures of the US. More than fundamentals, it is liquidity that supported the market. With increasing debt levels in the US and decreasing impact of QE on the economy, the Federal Reserve decided to taper the flow of liquidity in the system.
The Federal Reserve's mandate is the US economy; it is not concerned with what's happening in emerging markets. A pause at this stage, say experts would have signalled that the Fed is a slave to the markets rather than to economic forces.
Emerging markets across the globe are in trouble, to say the least. Interest rates are on the rise in many countries (India did it too) to prevent their currency from falling. However, countries like Argentina, Turkey, Russia and South Africa continue to see currency depreciation.
A slowdown in China and currency trouble in emerging markets has scared the ETF (exchange traded funds) investor. A Bloomberg report says that ETFs are witnessing record outflow. More than $7 billion has flowed out of the emerging markets funds in January 2014, the highest redemption since data is available with Bloomberg. Two of the largest funds are witnessing their highest ever redemption since their inception.
Can the finance ministry stop this flow?
Domestic mutual funds are sellers in the market in all but one month since June 2012. The retail investor is on the sidelines since the debacle in 2008. The biggest players in the market by far are the FIIs, within which ETF forms one of the largest investor group. Tapering of incremental $10 billion would impact the emerging markets more as money would flow out of weaker markets to stronger ones like the US.
The most that RBI and finance ministry can do is try to stabilise the currency by pumping in borrowed dollars that were was raised recently.
