We are surrounded by dark clouds of global economic gloom. The US has been stripped of its AAA credit rating by Standard and Poor's, a signal that the largest economy and the global reserve currency, the US dollar, are no longer free of risk. The Eurozone has fared no better. It has recorded a growth of 0.2 per cent during the most recent quarter (April-June 2011).
Not only are outliers such as Greece and Portugal tottering, but mighty Germany, which has been a big driver in Europe, grew only by a marginal 0.1 per cent. Japan is yet to get back on its feet. A double-dip recession in all these zones is now the talk of the town. But these very dark clouds hold several silver linings for the Indian economy.
LOWER COMMODITY PRICES
Weak US and European economies, with no short-term resolutions in sight, will inevitably lead to fewer jobs and lower consumer demand in those countries.
A direct outcome of this will be slowing demand for oil, since these developed economies are shameless energy guzzlers. Oil prices will therefore fall, a pattern which is already visible: in the past weeks, the price of Brent crude oil has slid sharply from $116 to $102 per barrel.
Some pundits have forecast an even lower price of $80 soon. Since oil constitutes nearly 35 per cent of the Indian import basket, this will mean a lower import bill for India, an excellent development.
In addition, lower oil prices will also lead to lower inflation in India, both due to the direct impact on prices of petroleum products, as well as indirect impact on cost of food and other items on account of lower freight and related costs.
Significantly, lower oil prices will also enable our rulers to decontrol domestic petro-product prices completely, and with little political risk. This will be hailed as a firm economic gesture by a Government, which has lately been accused of economic drift.
Weak global demand will also lead to lower commodity prices. The latest Economist commodity price dollar index (August 16) shows a decline of 3 per cent during the last month. The index of industrial commodities displays an even sharper decline of 7 per cent. Except for gold, all other metals are heading downwards. This will once again ease inflationary pressure in the Indian economy. Early signs have already appeared: inflation is down to 9.2 per cent in July, compared with 9.5 per cent in June.
If these early signs of lower inflation translate into a sustained pattern during the next three months, it will show quite a few good results. Indian consumers will view this as relief from high prices, so consumer sentiment and discretionary spending will perk up. In addition, RBI will not need to continue its monetary tightening process, which is targeted solely at reducing inflation, so it may well halt any more interest rate increases.
This will ensure that consumers' disposable incomes are not squeezed further through higher EMIs on loans; it will also put a smile on the faces of corporates, who are labouring under increasing interest costs. Generally speaking, some measure of focus will shift from controlling inflation to driving growth.
PREFERRED DESTINATION
When the dust settles on the US rating downgrade and Eurozone's multiple shocks, and global funds objectively deliberate on the investment destinations they should pursue, India will surely be one of the few large economies with prospects of 8 per cent economic growth.
Therefore, it stands to reason that funds which seek growth will flow into India, particularly since India's credit rating has remained stable; hence, in relative terms, our country is now better placed than earlier. This will happen notwithstanding the fact that some risk-averse funds, which are focused largely on safety, will retreat to their home markets in these difficult economic times.
Our capital markets and industry will benefit from such inflow of “growth-seeking” funds. This will, in turn, improve Indian economic sentiment significantly.
WEALTH EFFECT OF GOLD
The US downgrade, weakening US dollar and prospects of global recession have led to significant spikes in gold prices, as investors seek to place a higher proportion of their funds in this safest of assets. The price of gold has climbed sharply, to over $1,850 per troy ounce. Pundits are now predicting record price levels of $2,500.
This rise in gold prices creates a unique impact for Indian consumers and the economy. Indian households hold nearly 17,500 tonnes of gold. This is the largest stock of gold on earth, rumoured to be even higher than all the gold in Fort Knox! It is valued at $1 trillion, which exceeds 70 per cent of India's market capitalisation of all listed companies, and is four times higher than the total exposure that Indian households (excluding promoter families) have to the stock market.
Hence, as the price of gold appreciates sharply, Indian households will suddenly feel richer, particularly if this fact is explicitly highlighted and internalised well. A mere 1 per cent increase in gold prices increases the wealth of Indian households by Rs 45,000 crore. This “wealth effect” can lead to strong consumer sentiment, which is yet another redeeming silver (or should we say gold?) lining on the Indian horizon.
(The author is Chief Operating Officer, Watches Division, Titan Industries Limited. The views are personal.)