The European debt crisis dominated the global stage in 2011, contributing more uncertainty than was necessary for the investment community, and causing a series of whip-saw currents that disrupted capital flows across the globe. The daily diatribe of contrary opinions regarding Greece and other weak member states made for good headlines, but the resulting volatility made many withdraw from financial markets and seek the nearest “safe haven” until storm clouds dissipated.
This oft-repeated scenario was especially difficult to absorb by developing countries with emerging economies. A 10% downward wave in the West can translate to a 30-40% tsunami by the time it reaches an emerging country’s shoreline. Declining exports are one result, but it is compounded by the quick exit of sorely needed investment capital when the local currency begins to weaken significantly. Such has been the case for India in 2011, and many experts are suggesting 2012 will be filled with much of the same uncertainty and volatility.
In this era of globalisation, newly created interdependencies between global trading partners are not that well understood, since financial disclosures of this nature are rare. To the consternation of many analysts, the euro remained stable during the year, ending where it began relative to the dollar at $1.30. It has only come to light recently that the Euro had benefited from a massive repatriation of assets back to Europe by both banks and companies to shore up their domestic financial underpinnings. The rupee, among others, suffered as a consequence.
The following diagram provides a roadmap of our interconnected global economy:
The best way to discover hidden correlations in our financial markets is to compare various pricing indexes and search for similarities of causes and effects. Investment managers have created numerous exchange-traded funds, or ETFs, over the past decade, thereby providing the pricing data for just about any sector of the global economy from equities to commodities and even currencies. The chart above selects several of these to demonstrate possible correlations over the past year.
Stock markets tend to be a leading indicator of economic activity that may transpire three to six months down the road. In early 2011, stocks in emerging countries were beginning to react to the crisis in Europe. The blue line for India and the red line for Brazil, another member of the BRIC quartet, both began to decline, a slight ripple at first, but then a heavy wave hit when events in Europe took a bad turn. Exports fell sharply, the rupee weakened considerably by nearly 15% (the green line), and stock prices mirrored those found in Europe, depicted by the purple line.
The year ended with a mild recovery in the United States that hopefully will gather momentum in 2012, despite the intransigence that will continue in Europe. All signals are appear favourable as 2012 commences, but India, unlike Brazil, has a material trade imbalance. Imports exceed exports by roughly $130 billion per year. Liquidity will be an issue in the year ahead, but India and Japan, its long-term trading partner, recently renewed a $10 billion currency pact between the two nations.
There are over 800 Japanese companies operating in India, and joint projects between the two countries will create an industrial “corridor” across India with funding for major infrastructure build-outs to facilitate more trade with both Europe and Africa. External capital will flow inward to bolster the Rupee and stabilize confidence in the economy.
2012 may focus once again on Europe, but India has already made preparations for a smoother ride in the months ahead.
The author is with Forextraders.com, a social network of foreign exchange dealers
