There have been a series of downgrades of world economic growth by agencies like the World Bank, OECD and the IMF. In fact, the IMF has been talking about a 30 bps fall in world GDP due to a combination of BREXIT in Europe, weakness in China and the ongoing trade war. While Indian economy is still largely driven by domestic factors, a total trade size of $800 billion is not small. India is already the second largest consumer of oil and has already emerged as the second largest producer of steel in the world. Let us look at why the global economy slowdown will impact India.
When we talk of macro impact, we are not just referring to domestic macros but to global macros too. The world markets are interconnected and impacts can be transmitted rapidly across markets through portfolio investors and hedge funds. We saw that in the case of Lehman and Bear Stearns in 2008 and later through Greece in 2010 and China in 2015. With a trade size of $800 billion, India is bound to be impacted by a global slowdown. Here is why.
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How the slowdown in global growth will impact India.
- The US GDP growth and the growth in world GDP is a key determinant of the health of Indian stock market returns. As we saw earlier, the IMF has already downgraded the GDP by 30 bps and that is a big fall on a world GDP of nearly $80 trillion. Higher growth in the US and other developed markets means greater trade flow and an impact on GDP. It also means good news for global companies with globally spread business models like IT, pharma and auto ancillaries.
- A global slowdown also means that the US and other countries may be forced to cut rates to prop up growth. India may have to follow suit making Indian debt unattractive to global investors. US interest rates have a very deep impact on Indian stock prices. Normally, a sharp rise in the US Fed rates has resulted in a sharp fall in the Indian stock markets.
- Demand recovery in Europe is another key factor that impacts Indian stock markets. While the US continues to be a major market for sectors like IT and Pharma, both these sectors have gradually building a strong European franchise. Europe is a major market for textiles and auto ancillaries and a recovery in the EU region can have positive implications for a plethora of Indian stocks.
- To understand how a slowdown in China can impact India, look at how the situation panned out in late 2015. As Chinese growth started slowing, China decided to drop the Yuan which led to a mini currency war with emerging markets competing to devalue their currency. To be fair, China did not trigger a currency war but they managed to weaken the Yuan by shifting the range. This forced most emerging markets to resort to competitive devaluations of their currency leading to a quick sell-off. Of course, the situation did not precipitate but the risk of a China triggered currency war always exists.
- West Asia and the Middle East matters a lot as India imports most of its oil from that region. Oil is sensitive as India still imports nearly 85% of its daily oil requirement. A global slowdown could mean disruption in supply which will mean higher oil prices. Middle East and West Asia are also where most of the key trade routes of oil are located so any disruption in these areas will mean immediate fallout on crude oil prices with negative implications for Indian stock markets.
- The big impact of a slowdown will be on trade. India is already having a problem of the import bill crossing $500 billion and the trade deficit getting closer to $180 billion this year. Trump has already down heavily on H1-B visas which is negative for Indian IT industry. Any slowdown means that there could be too many people competing for fewer jobs. These kinds of problems could only escalate. Another big issue is the trade dispute between China and the US. China runs a trade surplus of nearly $600 billion with the US and it cannot afford to lose that advantage. If China moves a few steps forward then the US may be forced to reciprocate. The recent decision by the US to withdraw the Generalized System of Preferences is a case in point.
The bottom line is that global macros and policy decisions have a much bigger impact on Indian economy and the markets than we can imagine. Apart from a slowdown in trade and global demand, the impact will also be seen on central bank policy, monetary looseness and inter-state relationships. At a time when the Indian economy is likely to be the only $2 trillion economy to grow at 7%, the risk of global impact simply cannot be overlooked.