Sudip Bandyopadhyay’s Blog

It looks as though the international financial crisis has now given way to the international economic crisis that it caused.  Japan gives the best evidence.  Japan’s banks did not, as a rule, load up on toxic US mortgage debt.  Yet the crisis affected the country deeply.  For many years while leverage was easily available, the “carry trade” – borrowing in yen at its low rates to park cash elsewhere kept Japan’s currency cheap.  Then, once the credit market turned, bringing the carry trade down with it, there was a prolonged period when the yen functioned solely as a perverse “safe haven”, gaining whenever volatility was rising.  The carry trade appears to have been squeezed out of the system by about late November, The yen has weakened in recent days even as volatility has risen, showing that economic fundamentals have at last taken over from the perverse correlations of the credit bubble.  The problem now for Japan and everyone else, is the health of those economic fundamentals.  For Japanese trade, the financial crisis had two critical effects – it made its exports too expensive, thanks to the yen appreciation and it slashed away global demand for those exports.

The sight of half-laden container ships plying the seas is another clue that this is no ordinary global slowdown. Japanese exports almost halved in January. A geographic breakdown of  46 per cent year-on-year drop in exports shows the buyers’ strike is global. Japanese exports to the US fell 53 per cent and to the European Union and Asia by 47 per cent. This follows an 18 per cent drop in China, 33 per cent in South Korea and 44 per cent in Taiwan. Statistics are skewed by the Chinese lunar New Year holidays. But lead indicators suggest there is worse to come. Throughput at China’s once bustling ports is thinning. After growing at an annual 20-30 per cent from 2004, volumes have now returned to 2006 levels. Chinese import processing, which leads exports by a month or two, plunged 50 per cent, year on year, in January..

Domestic Capital markets continued to trade indecisively in the week gone by, with both Nifty and Sensex displaying a flat trend. During the week positive news flows in the form of a third fiscal stimulus package, benefiting sectors like Steel, Cement and Autos supported the otherwise weak market sentiments. Also Global news flows were supportive, post President Obama’s first 2009 budget proposals, which reassured Banks of continued fiscal support with a view to boost the U.S. economy. Markets are exhibiting indecisive trend with dismal volumes, indicating lack of participation of institutional players. FIIs remained net sellers in equity markets and outflow of dollar continued pushing rupee to a new low. With the Elections likely to be announced soon, markets will be pushed into uncertainty till political clarity emerges.  Markets are likely to remain in a range with domestic and global economic news flow driving the sentiments.

GDP data released last week for Q3 FY09 shows that Indian economy grew at 5.3% as against 7.6% in Q2, much lower than the consensus expectation of 6.1%. The Real GDP growth for the period of Apr-Dec stood at 6.9%. Inflation continues to be the bright spot in the economy and has dropped to a new 14 month low of 3.36% and is likely to fall further by end of Mar09. Further monetary easing from RBI is probably warranted at the earliest to take advantage of this continuously declining inflation. This action will provide the necessary boost to investment and consumption in interest sensitive sectors of economy.  Three fiscal stimulus packages announced by the government over the last three months have probably started working on ground slowly and there are visible signs of the same emerging from the semi-urban and rural markets, leading to political demands for extension of employment generation schemes to urban population as well.  However, to provide further impetus to this gradually building momentum, optimum and urgent monetary action at this stage is critically required.  At this stage RBI should probably focus on growth and not get too worried about the exchange rate.  We should not fall for the need to retain high interest rates just because it can backstop rupee.  May be a radical rate cut and not an incremental / gradual one, will bring life back into the economy and the markets.  Public finances need structural changes and the next government will need to focus on that, but the momentum generated by fiscal concessions should not be lost by pondering over those, now.

( ** this is the transcript of the weekly column I write for Economic Times )