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India Is a ‘Bright Spot’ Amidst a Global Slowdown – But for How Long?

The International Monetary Fund fears a full-blown debt crisis in many small economies.

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Fund managers are not sure whether to rejoice at the recent softening of crude prices, as the reason attributed to this decline is an impending global recession. Financial markets have been jittery over the last six months on account of rising crude prices, which triggered inflation that is fast going beyond central banks’ comfort. Now, they are tumbling down on account of an impending global recession.

Inflation is showing no signs of peaking out as price rise in the US has hit a four-decade high at 9.1%. Most central banks have turned hawkish – the Bank of Canada, the Reserve Bank of New Zealand, and the FED are expected to raise interest rates by 50 to 75 basis points in July. As of now, there are no signs of inflation cooling off, but recessionary fears have brought down commodity and metal prices sharply. The housing sector in Europe and the US is also cooling off. A global slowdown has already set in, and the probability of this turning into a recession is increasing every day.

Snapshot
  • Inflation in the US has hit a four-decade high at 9.1%. A global slowdown has already set in, and the probability of this turning into a recession is increasing every day.

  • The International Monetary Fund is fearing a full-blown debt crisis in many smaller economies.

  • Europe looks vulnerable for the next three to five years as the manufacturing sector is on the decline, in addition to its demographics.

  • The Indian economy remains a bright spot in a chaotic world. But a rising current account deficit, inflation, and growing interest rates will impair the macros in the near future.

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Many Nations are Staring at a Debt Crisis

But what is far more worrying is the existential crisis facing humanity in many countries. The list is growing every week. So far, the clamour had been about the high cost of petrol, food and other basic necessities. But now, the situation is becoming more worrisome as countries face unprecedented shortages. To make matters worse, they don’t have the resources to provide basic necessities. Rising interest rates and debt servicing obligations have pushed many nations towards a debt crisis. The International Monetary Fund is fearing a full-blown debt crisis in many smaller economies. Unfortunately, developed countries, too, are in economic turmoil, and the malaise could be much deeper than what is visible.

The economic and energy crises in Europe are beginning to be worrisome. To make matters worse, the euro and the pound have been depreciating, which is adding to the already high inflation. Interest rates are in no way in sync with inflation, and living standards have hit a 40-year low in the UK. Germany has decided to dim street lights in its cities as part of its austerity measures. The shutting of Nord Stream 1 is sending jitters down Europe. The region is likely to suffer a prolonged recession. Europe looks vulnerable for the next three to five years as the manufacturing sector is on the decline, in addition to its demographics. My sense is that we could see an asset price deflation in Europe over the next five years as Asia is likely to emerge as the new economic hub in this decade. Expect DAX, which hit a new low last week, and CAC and FTSE to see lower levels in the near future.

The US is staring at stagflation. The debate is about a full-blown recession or a slowdown, which will largely depend on the Fed’s struggle with inflation. Going forward, one can expect steep rate hikes for reigning in obstinate inflation.

Financial markets are likely to tank further, and one can expect new lows on Nasdaq and Dow. My sense is that we could see another 8% to 12% downside. After the dot com bust in the 1990s, and now the tech bubble, liquidity-driven rallies may be passé for some time.

Currency Games

There could be a reset in the private equity space and more realistic valuations for new-generation startups. The US will have to come up with something new to prop up the economy. The dollar’s strength will hurt the real economy and like the UK, the US will gradually lose its manufacturing competitiveness permanently.

The ruble has become the best-performing currency at 52 to a dollar, after hitting a low of 140 to a dollar. It continues to export higher inflation to Europe. Russia wants to control all its erstwhile resource-rich territories and also get a strong foothold in the Black Sea trading route. Sanctions are proving to be a disaster for the US as well as the rest of the whole world. De-dollarisation is becoming a wider theme now, with the Reserve Bank of India (RBI) announcing international trade settlements in Rupee. This may ease India’s trade with Russia and Iran, among other positives.

India Shouldn't Celebrate Too Soon

The Indian economy remains a bright spot in a chaotic world. The government is working with a long-term vision to make India more relevant geopolitically as well as financially. However, the country is also likely to face financial unease in the short run.

A rising current account deficit, inflation, and growing interest rates will impair the macros in the near future.

The Rupee has been depreciating against the US dollar but has appreciated 8% to 10% against the euro and the pound. We could see the Rupee dropping to 82 to a dollar as India has a $256 bn overseas debt payment obligation in the short term. The FII portfolio outflows and a high CAD are also putting pressure on the Indian Rupee. But on the positive side, the RBI’s initiative to settle international trade in Rupee and incentivise NRI deposits may bring some support to the Rupee.

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FII portfolio outflows and a higher current account deficit would increase the fiscal deficit and put pressure on borrowings, and, consequently, on interest rates. Increased input costs and higher prices will impact both demand and profitability for the Indian corporate sector for the next two quarters. Sectors such as IT, metals, cyclicals and banking are likely to be under stress in the near future. Indian equities till now have corrected significantly less in comparison to global equities. The primary reason is the almost $2 bn of monthly SIP inflows from retail investors. But the appetite is gradually waning.

I remain bearish about Indian markets for the short term, even though the underlying economic situation is relatively strong. Going forward, one may see levels of 14,340/13,050 on Nifty by October 2022, in line with the global equity sell-off; Indian markets could correct 15% to 20%. Lower levels can provide a great entry point for investors in Indian markets.

Meanwhile, brace for a hard landing, global equities!

(The author is Managing Partner at Alquimie Advisors. This is an opinion article and the views expressed are the author's own. The Quint neither endorses nor is responsible for them.)

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