While it is true that the growth rate of Indian economy has bottomed out at 5.7 per cent, going forward it is likely to improve now that the disruption caused by GST and demonetisation has already begun to disappear, much earlier than anticipated. It is important for policymakers to keep their guard up and prepare for global head winds which are likely to hit the emerging markets, including India.
The first indication of these headwinds is coming in the form of development that had taken place in the last couple of weeks in global debt markets. All of a sudden debt paper from emerging markets, which was the flavour of the season until a couple of months ago, has lost its shine. Last week, outflows from high yield bonds, which typically consist of emerging market paper, both private and sovereign, was as high as $6.7 billion. Because there was too much money floating around the globe at this point, this withdrawal went unnoticed. But companies from countries like China and Indonesia were forced to pull out their dollar denominated debt paper issues because of weak demand. This shows that there is no more desperation to put in money into assets that are considered relatively unsafe in global financial market. At least, as far as debt markets are concerned.
The yield on the debt paper across the emerging markets that had witnessed a sharp increase is staying at elevated levels. Even the yield of China’s 10-year benchmark increased to a three-year high. The differential between the yield on global emerging market bonds and US treasury hit a high 3.88 per cent last week, which is a two-month high. Probably, what is happening in global debt market is the reason why there was no significant drop in yield on Indian paper despite sovereign rating upgrade last week.
It is not only debt market, price trends from commodity market also have the potential to turn into a headache if they continue to follow the pattern that had emerged eight weeks ago. Prices of some of the non-ferrous metal had firmed up few weeks ago and despite lower than estimated macro number from China, prices of these non-ferrous metals are refusing to come down. This is an indication that some of the excess liquidity has started to flow into commodities. This might be due to the hope that sooner or later continued strong US economic number will lead to surge in demand even for commodities. If by any chance Chinese economy also revives sooner than expected, then the commodity price of both ferrous and nonferrous metals are going to zoom sharply as more speculative money will enter into these commodities. This trend had been witnessed twice in recent past — between 2006 and 2008; 2010 and 2012. Commodity price shot up in these periods due to a combination of demand and excess speculative money and sovereign funds.
India does export certain commodities, but that is largely raw material. On an average, we are net importer of many finished metal, which means higher commodity prices may bring the risk of imported inflation to forefront.
The third risk that appears to have different dimension this time is the rise in crude oil prices. While they have cooled down a bit from a recent high of $64, they still remain above the comfort zone of India at $55. When oil prices move above the level of $50, production of shale gas would increase, which automatically act as crude oil price dampener. But shale gas production, unfortunately, do not indicate any dramatic uptick in production. To add to the trouble, there is geo political tension building in the West Asia region. This is likely to push oil prices further, which in turn would mean currency may come under pressure, kick starting a cycle of adverse development.
Policymakers can do little to change direction of price in global market but surely they can be ready with plans to counter any such development so that capital outflows are minimal from Indian markets.