What does a weak US dollar mean for India... - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster
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What does a weak US dollar mean for India... 

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In this issue:
» Will India Auto see better times?
» Retail investors' interest in MFs surges
» Is too much forex reserves a good thing?
» Global cues that could impact India
» ...and more!


00:00
 
If history is anything to go by, the US has not got its monetary policies right at all. In a book written on the destruction of the US dollar, authors Steve Forbes and Elizabeth Ames seek to explain how the US has been simply not able to understand the concept of sound, responsible money.

It all began when former US President Richard Nixon put an end to the gold standard in the 70s. And in the process paved the way for the US dollar steadily losing value.

The 2008-09 global financial crisis is nothing but a result of the loose monetary policies unleashed by previous governments and central bankers. When the value of a currency declines, people seek to protect their wealth by investing in commodities and hard assets. This is what sowed the seeds of the housing bubble in the first place. With cheap money in the hands of people, most of them made a beeline for buying houses under the misleading notion that property prices will only go up. Thus, when the rates were finally raised, the market collapsed leading to the housing meltdown. The consequences of this were not restricted to the US alone. Given that the financial system around the world is much interconnected, the housing collapse and the weakening of the banking system had a ripple effect across Europe and emerging economies as well.

What more, the risks of a weak US dollar have not entirely gone away. Indeed, the US Fed seems to have decided not to learn a lesson. Thus, it has chosen to solve the problem of cheap money that led to the 2008 crisis by printing more money and weakening the dollar further.

What happens in the US has repercussions for the global economy as well as the financial crisis has amply demonstrated.

One is the threat of capital outflows and currency volatility especially for the emerging economies. India, like its peers, was at the receiving end when there was a huge outflow of money at the time of the credit crisis. Not just that, the subsequent years saw this money come back in droves as the Fed's distorted policies led to global investors looking for better yields. Thus, India which was already battling high inflation had another headache to deal with as too much liquidity also exerts inflationary pressure.

The book also seeks to explain the stark difference in growth and unemployment members between the gold standard era before the 70s and the period post that. So, from the end of World War II to the late 1960s, when the US dollar had a fixed standard of value, the economy grew at an average annual rate of nearly 4%. Post that, it has grown at an average rate of around 3%. And this 1% drop is quite a lot. As far as job crisis is concerned, from 1947 to 1970, unemployment averaged less than 5%. Since Nixon did away with the gold standard, it has averaged over 6% and since 2008 has averaged around 8%.

The relentless monetary expansion has also led to the US government to amass unsustainable levels of debt. As Bill Bonner, in one of his Daily Reckoning articles pointed out, the only reason why the US has been able to feed on debt is because of the status of the dollar as the world's reserve currency. So the government has chosen to service this debt by printing more of the US dollar. Eventually, if the US dollar continues to consistently lose value because of such reckless money printing, other countries will be bound to de-risk themselves from the dollar, a trend which has slowly begun to take place.

In India, how the stock markets will perform in the next few years no doubt will depend a lot on what the Modi government does in terms of fuelling growth and development in the country. But that does not mean that Indian investors completely ignore these global cues. The close integration of global financial markets including India's means that such irresponsible money printing practices of the central bankers of the developed world will have some repercussions for India as well.

Do you think that the relentless easy money policies of the US Fed will have an adverse impact on Indian markets? Let us know in the Equitymaster Club or share your comments below.

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01:36
 
Besides the Fed's loose policies, the coming together of a number of other adverse global events can have the potential to put further pressure on Indian markets. The sanctions imposed on Russia by the West saw a further escalation with Russia banning food imports from the West. This may impede recovery in the European economy that is still not out of the woods. As if the ongoing conflict in Gaza and Israel was not enough, geopolitical tensions heightened further after US ordered strikes against Islamists militants in Iraq. These militants had been wielding control on the country's crude exports. This has led to firming up in global crude prices. Resultantly India, a major oil importer, can once again slip into the fiscal deficit chasm. Above all, possible interest rate hikes by US Federal Reserve on economic recovery can hurt foreign capital flows in the country. These global developments can dampen the share markets in India in the medium term.

02:15
 
No doubt the foreign institutional investors call the shots when it comes to bull and bear trends in Indian markets. However, it is encouraging to know that retail investors are not entirely giving the prospect of having stocks and mutual funds in their portfolio a miss. Retail investors who had almost deserted the stock markets until about a year back seem to have found their lost confidence. As per Economic Times, retail investors have pumped in Rs 110 bn in mutual funds in the month of July. This figure is the highest in six and a half years. With their sentiments buoyed with hopes of reforms from the new government, investors are keen to create wealth through stocks. This is indeed a good sign since Indians despite their high savings rate are known to be less inclined towards financial savings. The household savings in stocks and mutual funds in particular at less than 10% is amongst the lowest in the world. Higher participation of retail investors will also mean more stability in the markets. However, what worries is whether investors have taken a rational approach while entering the markets. Keen to capitalize on the market boom, mutual funds and brokers are promising the sun and the moon to gullible investors. Hence if investors enter the markets with the greed to multiply their wealth within a short span, they are bound to get disappointed again!

02:45
 
Thanks to the robust capital inflows of the past few months and a falling current account deficit, India's forex reserves are now close to an all time high. In terms of meeting our import requirements however, they seem to be well short of the 2008 record. It should be noted that back then, we had reserves that could cover 15 months of imports. However, our monthly import bill has now swelled to around US$ 40 bn. Therefore to provide a cover for 15 months, the reserves need to go up to at least US$ 600 bn. This is nearly double the current forex reserves in absolute terms. So, should India go all out in accumulating more dollars so that a record import cover can be had?

Well, having more reserves is a good thing. But at the end of the day, having reserves amounts to financing some other country and hence at a time when our own financing needs are great; we cannot simply go about enhancing our reserves. Besides, as the Chinese example shows, if you have too much reserves, you can become a victim of your own success. Simply because your selling could end up depreciating the value of your remaining reserves. Consequently, as with most things in life, a little bit of moderation also works great when it comes to having the right level of forex reserves we reckon.

03:29  Chart of the day
 
After a couple very tough years, for the Indian auto industry, there could probably be some improvement for the sector in the months ahead. The first quarter of FY15 has seen a strong surge in exports and a decent growth in 2 wheelers but passenger vehicles and commercial vehicles continue to remain under the weather. Having said that, compared to the previous many quarters, PV and CV volumes have begun to see some improvement. Of course, for volumes to really surge, there has to be a pick up in the Indian economy. That said, most companies during the ongoing results season have hinted at things picking up in the second half of the fiscal. Little wonder then that most auto stocks have seen a surge in prices in the recent months.

Is a recovery around the corner for Indian Auto?
*Passenger vehicles, **Commercial vehicles


04:10
 
Global markets ended the week on a negative note as the United States military intervened in the ongoing crisis in Iraq. The escalation of tensions in the Middle East and Iraq has come in at the same time that the European Union imposed fresh sanctions on Russia concerning the ongoing crisis in the Ukraine. With the exception of the US and Chinese markets, most global indices ended the week in the red. The Japanese index (down 4.8%) fared the worst amid growing concerns that Abenomics i.e. the economic policies currently being followed by the government, has failed to revive the economy. European markets were also down for the week. The German Dax, British FTSE and French CAC indices were down 2.2%, 1.7% and 1.3% respectively.

Amid the geopolitics tensions, crude oil prices increased yet again this week (by 0.8%). The Indian markets were down 0.6% as FIIs moved funds back to the relative safety of the US markets. The monetary policy was by and large a non-event for the markets as the Reserve Bank of India (RBI) did not change the benchmark repo rate but cut the Statutory Liquidity Ratio (SLR) by 0.5%.

Performance during the week ended 8th August, 2014
Data Source: Yahoo Finance, Kitco


04:55  Weekend investing mantra
"I think you should read everything you can. In my case, by the age of 10, I'd read every book in the Omaha public library about investing, some twice. You need to fill your mind with various competing thoughts and decide which make sense." - Warren Buffett
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4 Responses to "What does a weak US dollar mean for India..."

BV

Jun 6, 2015

Am not sure US is naïve...the country has a "vision" and a strength to achieve it ! The credit crisis is real...but US is smart. eg. housing bubble - was deftly packaged into toxic securities and exported....so what should be an American crisis became a global. Since the wealth of rest of world was sucked into the void, it actually strengthened the dollar.

Commodities - the US has an almost unlimited strength to manipulate it...otherwise, how can you explain the 120 $ oil price when economy was in slump and the 50$ today, when its supposedly good days of recovery...the high price was unjustified and manipulated to develop the high cost fields...possibly at great debts, now will be easy targets of takeover. Same thing with others - iron ore, copper...!! BY one means or other US can engineer the global politics to echo its needs - with the unwary rest of world playing the US game without even realising it !

I am wary of betting on either the demise of dollar... Euro - the supposed alternative gets into a crisis regularly...China/Japan / India have so much dollar reserves, that these countries would not like to weaken their own net worth...so dollar will be supported - with a smile or grimace...! Ozone depletion, Greenhouse, carbon emissions are all creations of US that are hibernating to be used as brakes if need be, to stall upstart economies that could pose a threat to US hegemony...

India should neither accumulate more - nor do away with its current levels...

Like 

Atul Sharma

Aug 11, 2014

If FOREX RESERVE continues to mean US dollars alone, it will definitely affect India adversely.

Like 

Manoj Bharucha

Aug 9, 2014

I have a contrarian view as regards the rupee-dollar equation and feel that it's not the dollar that will weaken, but it's the rupee that's very likely to weaken significantly in the coming year or so to a scary level of almost 80 rupees to a dollar!

Like 

Manoj Bharucha

Aug 9, 2014

I have a contrarian view as regards the rupee-dollar equation and feel that it's not the dollar that will weaken, but it's the rupee that's very likely to weaken significantly in the coming year or so to a scary level of almost 80 rupees to a dollar!

Like 
  
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