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The economic boom in India is over

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Points of Essence:

  • India acceded to the fact that the impact of the US credit crunch has left the authorities scurrying to deflate the damages that may have battered the country’s previously booming economy. This may delay India’s plan to introduce Islamic financial services as economic revival seems to have taken priority at this stage.

By COOMI KAPOOR

Policy-makers have taken urgent steps to try and stop further haemorrhage of the Indian rupee and equities, but these efforts may not be able to hold off a full-scale recession that may last well through 2009.

DESPITE Finance Minister P. Chidambaram’s best efforts to insulate the Indian economy from catching the Wall Street cold, the contagion finally spread to these shores last week in a rather rude manner.

Such was the impact of the detritus of the crumbling US financial system that it finally wreaked havoc on the Indian stock markets, forcing the policy-makers to take urgent steps to try and stop further haemorrhage of the Indian rupee and equities.

Fears, however, persisted that economic indices would turn further down before these would begin to look up again.

The pressures on the Indian financial system caused the Reserve Bank of India (RBI), the country’s central bank, to overnight reverse its own tight-money policy it had embraced to contain a double-digit inflation.

Now, to inject a dose of fresh liquidity into the credit-starved economy, the RBI reduced the cash reserve ratio (CRR), under which banks must keep with the central bank a portion of their deposits, from 9% to 8.5%.

This was the first time since June 2003 that the central bank had lowered the CRR.

Back then, it was lowered to 2.5%. Clearly, the move was to stave off the developing cash crunch, which was beginning to tell on the overall economic growth, with the projection for 2008-09 officially revised to 8% from the earlier 9%.

Several economic pundits, however, find even 8% rather optimistic, given the creeping global slowdown. The other measure announced by the Securities and Exchange Board of India (SEBI), too marked a huge retreat.

Last Monday, when the bellwether Bombay Stock Exchange Sensitive Share Index fell a record 5.8%, or 724.62 points, to end at a two-year low of 11,801, the market regulator rescinded its own order of October 2007 regarding investment in share markets by foreign investors without actually disclosing their identity.

These investments through various off-shore tax-havens, especially Mauritius, through participatory notes (PNs), were widely suspected to be misused for tax evasion and money-laundering.

It was also believed that a good portion of the investments coming through the PN route were made by resident-Indians who “round-tripped” their black money to make it legitimate through equity market operations.

Since tax-havens attract no capital gains and other levies, even well-known foreign institutional investors route their investments through one of the many tax-havens.

Last October, SEBI had partially closed the tap of the PN investments. Now, in order to stem the panic selling on the bourses and to boost sentiment, SEBI rescinded that very order.

The Sensex has shed more than 45% from its peak early this January. And there is no stopping the bloodbath, since foreign institutional investors (FIIs) continue to pull out funds. Overall, foreign institutional investors own a sixth of the total Indian market.

Such is the need of the foreign investors to raise funds in the wake of the financial crisis back home that they are selling stocks when the Sensex is down over 45% and the rupee is at a historic low against the US dollar.

The pullout by FIIs coupled with the worsening current account deficit due to a higher bill for oil imports has pulled the Indian rupee down to a five-year low. At over Rs48 to the US dollar, the rupee has lost more than 20% of its value in a matter of a few weeks.

Before the current slump on the stock exchange, the rupee had appreciated to Rs38 to the US dollar, with the central bank trying desperately to stop further appreciation of the Indian currency. Now, the RBI is selling dollars in order to steady the rupee. But in view of the plethora of bad news all-around, it is finding that task pretty difficult.

Another headache for the policy-makers is the double-digit inflation, which presents a frightening prospect on election eve.

The tight money supply and a high tax regime put in place in recent months was largely dictated by rising concerns about inflation, though much of it was “imported” due to high commodity prices in the international market, including that of crude oil.

A cheaper rupee can result in more imported inflation, a most worrying factor for oil companies, which rely on more than 70% imports to keep the economic engine running.

Despite the fall in the price of crude oil in recent weeks, the weakening of the rupee has more than cancelled out the likely advantage.

India’s balance of payments position too has deteriorated, with the April-June quarter this year registering a surplus of a mere US$2.4bil (RM8.4bil) as against US$25bil (RM88bil) in the January-March quarter.

Happily, the foreign exchange reserves at over US$310bil (RM1tril) provide the RBI a good cushion to try and stop further depreciation of the rupee. Small wonder then the spreading mood of doom and gloom have impacted diverse sections of the economy. Consumer spending is down. Retail chains are reporting far fewer footfalls and, above all, the realty sector has already taken the worst hit.

There has been a 20%-25% correction in rental and property values, with several realty firms saddled with a huge inventory of commercial and housing stocks. Consequently, prices of major realty shares are ruling well below their issue price.

In this bleak scenario, fresh investment, both domestic and foreign, is hard to come by.

The troubles of the Tatas, who last week were forced to re-locate the iconic small car project from Singur in West Bengal to Sanand in Gujarat, and thus push back the production schedule of Nano by at least a couple of months, are symptomatic of the creeping recession in the Indian economy.

Besides, the monetary and fiscal position is fast deteriorating due to freebies being distributed by various governments to please voters on the eve of crucial state and parliamentary elections.

In other words, India might be staring at a full-scale recession which, several economic pundits aver, may last well through 2009.

Source: INDIA DIARY

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Written by Suapi Shaffaii

October 13, 2008 at 2:54 pm

Posted in General Issue

Tagged with ,

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