|»5 Minute Wrap Up by Equitymaster|
On This Day - 8 AUGUST 2011
How bad would US downgrade be for India?
In this issue:
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We are not exactly delinked from the US. It is a major client for nearly all of the exporters. Therefore any recession or slowdown in demand from US would impact the earnings of the export focused firms. To add to this, the domestic demand environment has slowed down as well. This was on account of the monetary tightening measures adopted by RBI to control inflation. Therefore, the domestic demand may not be able to offset the slowdown in demand from overseas. This spells trouble for Indian firms.
But is this problem new? US has been in a crisis since 2007 when Lehman Brothers collapsed. In reality, the crisis started when the banks decided to give loans to people who did not qualify for it.. But then that's history. Nonetheless, the fact is that US has been in crisis for a while now. The recent downgrade is just finally accepting the fact that US is in crisis. The Indian exporters have already learned to live and work around with clients who have tightened their purse strings. They have learnt how to negotiate with them. They have also learned how the crisis and changes in regulatory environment can be used to get better and more work from the clients.
Therefore, the recent selloff does not spell trouble for India. These risks could already be accounted for in the stocks. True there may be more crashes to come due to global volatility. But these should be treated as an opportunity. An opportunity to pick up fundamentally sound companies. The market crash is giving us an opportunity to get these stocks at cheaper valuations.
Addressing the captains of Indian industry at the recent conference, Finance Minister Pranab Mukherjee assured that India was capable of achieving high growth rates despite the ongoing external shocks. We are of the view that though the panic may squeeze liquidity from the markets as foreign institutional investors (FIIs) take flight; the debt crisis in the developed world does not significantly alter the fundamentals of our long term domestic growth story. Nonetheless, we must not forget that we have our own internal monsters such as inflation and corruption to deal with. Barring these challenges, India is poised to lead the global economy along with the other emerging economies.
Also, it is quite possible that the Indian central bank, easily one of the most hawkish in the world, stops its interest rate hiking exercise. This can happen if global commodity prices fall and consequently, inflation in India cools down. Hence, there is a chance here that even without the Government giving a stimulus shot, the economy could be boosted on account of the RBI's measures.
However, it would be wrong to completely rule out fiscal stimulus from the Government. It could well become a possibility if the developed world plunges into a recession worse than imagined. Here, the Indian Government may have to step in to pick up the slack on account of severe slowdown in net capital inflows and trade balance. For the time being though, it is a wait and watch approach by the Government.
In response to the current flow of bad news coming from the United States, IT stocks felt a bulk of the selling pressure last week, tanking over 6%. In initial trade on Monday, the BSE-IT index was down almost 5%. But is this sell-off justified? Firms like Cognizant and TCS are boasting of a robust pipeline, even in an uncertain macro environment. Only Infosys seems to be cautious about the future. However, if global disasters are averted, and the world economy keeps on chugging along, IT stocks may see a relief-rally. This is because these stocks currently have a lot of negative sentiment about slowing demand priced in.
That is not all. S&P gave Lehman Brothers, whose collapse triggered a global panic, an A rating right up to the month of its demise. And refused to accept blame even after Lehman collapsed. Indeed, one does not deny the fact that the US is in a bad shape. Its mounting debt burden at some time or the other was bound to blow up in its face. The question is whether S&P's has the moral right to downgrade US debt and be taken seriously when its tainted reputation has been exposed to the world.
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