Understanding India

01 Jan 2010

The sunrise of the Indian economy

10 years of Vision: India’s economy has continued to grow strongly, with GDP growth averaging 8% between 2009 and 2016 while inflation has been curbed, declining from over 13% to less than 3% currently. Politics has remained relatively stable and market friendly, with the current Prime Minister Narendra Modi succeeding Mr Singh in 2014. The stockmarket is up 132% (total return) in local currency although the rupee has weakened by about 30% against the US dollar.

The emergence of India as a global player featured in Vision 2010, after World Bank figures predicted that it would be the fastest growing economy in the world in 2010.

As the first decade of the 21st century draws to a close, the might of Asia grows ever stronger. Hot on the heels of China, India is fast emerging as a fierce competitor for the investment dollar of the international investor. Domestic demand for Indian equities, fixed interest products and mutual funds is set to grow strongly over the next decade as domestic drivers increase, coupled with the country’s already high savings rate.
 
For the next 30 years, amid a world of countries burdened with ageing populations, India stands out as a supremely “young” country whose major asset will be its human capital. According to UBS, the Indian economy is forecast to deliver real GDP growth of 8 – 9% per annum for the next 10 to 20 years as a huge investment is made in the country’s infrastructure which in turn should accelerate reform. India is a country on the brink of huge structural change.
 
The potential is substantial. World Bank figures predict India will be the fastest growing economy in the world in 2010, with 2009 having seen the country exhibit phenomenal resilience in the face of strong global headwinds. Aggressive financial easing in late 2008 by the Reserve Bank of India, together with the provisioning of ample liquidity, helped insulate India from the global credit crunch. Consumers have continued to consume. Industrial production exceeded expectations in August 2009 with growth of 10.4% recorded against expectations of 9.7%.
 
Buoyed by the decisive election victory of the pro-business government of Prime Minister Singh in May 2009, the election has paved the way for India to continue the rapid growth it has recorded in recent years of 7.8% per annum from 2000 - 2007. The win for the Congress-led United Progressive Alliance (UPA) has kicked the once powerful Communist Party into touch with the pace of reform in India expected to continue its upwards trajectory.
 
The banking sector in India has managed the credit crunch without the need for government intervention.
Unlike China, the banking sector in India has managed the credit crunch without the need for government intervention, with Indian banks having avoided the toxic debts which laid low many of their global counterparts.
 
Fiscal policy has also remained supportive to shield the economy from the impact of the global economic slump, with large spending increases in the 2008/9 budget increased again in the July 2009 budget, targeted on infrastructure improvements as well as measures to increase the real incomes of India’s rural poor. In recent years, the pace of reform has been constrained by the country’s poor infrastructure.
 
This is now being addressed with spending on roads, railways and power plants, as well as irrigation and water supplies being given a high priority. With the huge US$2.5trillion of infrastructure investment planned over the next 15 years (source: UBS) India should be able to grow at a sustainably higher rate in the future than its capacity constrained infrastructure has allowed in the past.
 
Fiscal policy is expected to remain stimulatory, but at the price of running up a large fiscal deficit, which will need to be reduced in coming years. Public spending centred on rural infrastructure projects is expected to climb 13% in the fiscal year March 2009/10, down from the 30% rise in 2008/9. India’s fiscal deficit is undoubtedly high relative to other countries in Asia – Standard & Poors has India on a BBB+ (negative outlook) debt rating.
 
However, as the economy continues to grow, it is hoped that corporate sector investment on the part of both domestic and foreign investors, coupled with the high savings rate in India, will pave the way for private sector funding to replace government aid.
 
As the economy continues to grow, it is hoped that ... private sector funding will replace government aid.
Improved tax collection, the setting up of special enterprise zones, improving loan relief packages for farmers and reducing oil subsidies are also expected to reduce the fiscal deficit. Furthermore, the Government has announced plans to step up the pace of its impending divestment programme which should attract foreign capital into the market – Oil India, Coal India and Indian Railways (the country’s monopoly passenger railways provider) are but a few of the planned offerings.
 
At a recent World Economic Forum in New Delhi the target for the fiscal deficit to return to 4% of GDP by March 2012 from its current level of 6.8% was set. 
 
During the first quarter of 2009, India’s current account returned to surplus with overall credit to GDP remaining moderate for the region, with scope to rise. India is still a very debt averse country where both household and corporate leverage is generally low. Household spending has remained resilient as earnings have continued to rise for urban workers, with the cushion of high levels of household savings continuing to underpin the economy.
 
The loss of wealth has been low relative to the rest of Asia as the vast majority of India’s population does not invest in equity markets. This current low level of domestic exposure to the equity market is a positive for the longer term growth of domestic inflows into equities.
 
Stock market performance in the brics graph
 
Consensus forecasts (JP Morgan as at 11/11/09) for the broad market are for corporate earnings growth of 9% and 23% for 2010 and 2011 respectively. With its relatively liquid stock market offering investors a host of diversified companies in which to invest, its stable government, coupled with the expected growth of its domestic consumer base, India looks well set to attract foreign investment flows as well as the continued growth in demand from the domestic institutional investor.
 
According to World Bank figures, foreign direct investment into India in the year to March 2009 was $27.3bn whilst the comparable figure for China is expected to be $130bn. These factors should also contribute to a firm currency over the coming years.
 
In terms of its development, India is believed to be lagging China by between five and ten years. While a straightforward comparison between India and China is not simple, the obvious difference between the two economies is their political persuasion. This has meant that China has been able to impose reform more readily than the democracy in India has permitted. Trend growth in India will inevitably be lower than China’s for this reason, although India is still expected to record strong earnings growth for the foreseeable future.  
 
A poor monsoon in 2009 has contributed to rising food prices in India which has in turn fuelled inflationary concerns – wholesale prices look set to accelerate to 6 – 7% year on year to March 2010. However Agriculture is much less important to the economy than it was even five years ago and to concentrate on the monsoon issue would be to miss perhaps the most interesting facet of the Indian story currently.
 
While growth in the 10 major cities in India has been subdued as a result of the global slowdown, “Middle India” is propelling the growth of the whole country. For the past two years, 55kms of rural road have been built every day – the impact of this is mind-boggling. For the first time ever villages are being connected to roads.
 
Crops can be transported to markets in larger centres where mobile phones are being used to track the market prices of goods. Rural sales of Honda motorcycles are up – urban sales are down. Semi urban small towns and larger villages are growing rapidly. This growth is domestic and totally independent of external factors and is the reason why the Indian story presents so many opportunities for the investor.
 
The “internal globalisation” of India and the formation of a single market as opposed to a collection of separate provinces each with their own markets and infrastructure is as powerful as the external globalisation India is currently experiencing. Together with the fact that penetration levels for most products and services in India is so low in an economy where the rural population is still so high, the growing consumer boom presents a strong case for investment in India.
 
As a young country in an ageing world, India’s population is now being seen as an engine of growth rather than the burden it was seen as in the past.
The demographic argument is also crucial to India’s future development. As a young country in an ageing world, India’s population of 1bn people (one sixth of the world’s population) is now being seen as an engine of growth rather than the burden it was seen as in the past.
 
The South and Western regions of India are already experiencing fertility rates equal to that of a Western European country, indicating the pace of development which has already taken place. It is in Northern India where particular challenges remain in harnessing this “human capital” by means of investment in areas such as better education, healthcare, roads to go to work on and lights with which to study at night. 
 
Other strong drivers for the future of the Indian economy include a more positive stance towards India’s entrepreneurs, an acceptance that knowledge of the English language is a huge asset in terms of growth in the international outsourcing industry as well as a perception that technology is liberating and empowering rather than something to be feared.
 
India is a democratic country which is growing at rates rarely seen. Per capita income is set to double over the next nine years. Indians feel more confident that they can participate in globalisation and, with its young population, it is uniquely placed to reap the benefits.
 
The Government’s challenge will be to move forward from an era in which bureaucratic restrictions and regulations, fragmented markets, poor literacy and infrastructure have caused capacity constraints, to an era when the abounding positives can translate into a sustained period of strong economic growth.

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