Despite India's greater globalisation, the impact of the global crisis has been muted
India’s engagement with the world has been rising steadily. This is true in terms of merchandise trade, trade in services (invisibles) and in terms of capital flows. It follows that India is thus today a lot more vulnerable to external shocks than it was in the past. The difference is that India is also a lot stronger today than it ever was in the past to deal with an external shock. Therefore, in many ways it is not the degree of coupling with the rest of the world that is important as is the country’ inherent strength in dealing with an external shock when such an event occurs that is important.
External shocks have, in the past, caused tremendous damage to the Indian economy. The oil shock of 1979 led to a balance of payments crisis. The oil crisis caused by Iraq’s invasion of Kuwait caused a similar crisis again in 1990. In both cases India had to borrow from the IMF. The impact of the Asian contagion was mild, but it did mark the beginning of a prolonged period of a slowdown in India. Compared to these, India has been remarkably well equipped to meet the 2008 global liquidity crisis. There is no balance of payments crisis in spite of the spike in oil prices and the global liquidity crisis of September-October 2008. The fiscal deficit proportion has increased, but it is small compared to the levels reached in the early and mid-1990s. India still has amongst the highest real GDP growth in the world. We may argue to eternity what our policy responses should be, but it is undeniable that in spite of our greater globalisation today, the impact of the external shock of 2008 did not cause a macro-economic crisis like similar crisis did cause in the past.
There are several strengths of the Indian economy today that were not present in the past. I pick just two that I believe are the most important. The first is the resilience of the Indian corporate sector and the second is the resilience of domestic demand.
Indian corporates are stronger today than they ever were. There is no structural stress in corporate finances. Gearing ratios are well below one and net profit margins of non-finance non-refining companies are well over eight per cent. This is the highest margin in the last 15 years. The working capital cycle is the lowest in 15 years. Because of the sudden crisis that erupted in October 2008, corporates face a difficult external environment. This is particularly true for those corporates that need to raise large sums of monies in the international capital markets. But, if there had to be a crisis, it could not have been better timed for India Inc.
Indian corporates faced their worst quarter in recent times in the one that ends in December 2008. Net profit margin of the corporate sector as a whole is expected to drop sharply to 3.3 per cent in the December 2008 quarter. But, this is expected to recover steadily to 6.3 per cent by the quarter ended September 2009. Indian corporates suffered high raw material costs, high energy costs, wage costs and interest costs in the past two years. These cost pressures are expected to ease substantially during 2009-10. Commodity prices have declined, interest rates are easing and pressures on wage increases are also expected to ease. Given that top-line growth was robust even during the stressful 2008, we expect sales growth to continue to be strong in real terms in the coming quarters. It would decline in nominal terms because commodity prices have come down. But, sales would rise in real terms. The net effect of the fall in costs and the continued rise in real sales is that profits would increase handsomely in 2009-10.
However, the recovery in 2009-10 would be sharply discriminating. Small and weak companies would face a difficult task in recovering from the crisis. While the problem of credit availability has eased, it has not vanished completely. Small companies are ill-equipped to handle the situation. One would expect these companies to carry a higher risk of becoming stressed assets of banks. Stressed conditions for smaller companies and low valuations makes 2009-10 an ideal year for large companies acquiring smaller companies.
The runaway exuberance on investments seems to have been arrested. Now, only those projects that are viable even in difficult times would get completed. Those that were based largely on the continuation of the real estate valuation bubble would get shelved. This bodes well for the Indian economy. A survey conducted by CMIE in October-November 2008 indicated that majority of the companies that were executing projects in manufacturing and infrastructure sectors intended to complete these broadly as per schedule although implementation had slowed down during October-December 2008. We expect capacity expansions to recover quickly from this slowdown as uncertainties regarding the future are beginning to recede.
The expansions would be more in those industries that meet domestic demand rather than those that meet exports demand. For example, textiles, garments, automobile ancillaries would suffer because of the effects of the global slowdown. But, domestic demand driven industries (these dominate the industrial sector), are expected to recover quickly and robustly.
Domestic demand is the second important source of the resilience in the India growth story. It is quite likely that the growth in spending power of the top strata by income group is adversely affected by the fall in asset values. And, it would remain depressed as bonuses would be skipped or pruned. But, a much larger spending population below this stratosphere is unaffected by the fall in the markets. Their savings have largely been into housing and the fall in interest rates would help improve their discretionary spending power. Jobs are largely intact and incomes levels have risen in this bracket. In the middle income groups, government jobs and organised private sector jobs are unaffected. Tax rate cuts and Pay Commission awards have padded these groups quite well. Once the fear of job losses that arose post the crisis is overcome, these groups will return to spend aggressively. This is likely to happen in 2009-10.
At the lower income group levels, large scale government interventions through schemes such as the NREGA have helped keep aggregate income levels in this group intact. Besides, four consecutive years of positive growth in agricultural incomes (a record after 39 years) provide impetus to incomes in rural India.
It is not surprising that FMCG companies are reporting good results. They, and many others, would report healthy results in 2009-10 as inflation falls sharply and interest rates also climb down steadily. Real GDP is expected to resume its robust growth rates from the second quarter of 2009-10. And then, the third quarter of 2008-09 would look like a blip in a healthy trend.
Early in 2009-10, a new government would be in place, war cries would dim and discussions would veer back to reforms and growth.
The author is managing director & CEO Centre for Monitoring Indian Economy
