How India caught the world's cold

The world slowdown is threatening hopes for an end to poverty in India that were raised by recent growth rates. By Jeremy Warner in Delhi
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The Independent Online

House prices are plummeting, credit markets have become frozen, business and consumer confidence are collapsing, the auto industry is at a standstill, and the stock market is off more than 50 per cent.

Sounds like old hat? Only this is not America or Britain, but India, an economy which until a few months back was still booming and whose apparent resilience to the banking crisis was thought an antidote to the travails of more advanced, Western counterparts.

Even the emerging markets, it now seems, are not going to escape the crippling embrace of the credit crunch. Still motoring along at a growth rate of 9 per cent plus as recently as August, the Indian economy has experienced a sharp slowdown in the last couple of months.

To the apparent bewilderment of policymakers and business leaders here, the banking crisis has arrived with a vengeance, with credit markets in disarray and demand across a broad swath of industries in free fall.

The decoupling theory lies in tatters, and though there is no talk yet of outright recession, for growth to slow even by a couple of percentage points in a country where 10 million are entering the workforce every year is grim enough.

As in Britain and the United States six to nine months back, political and business leaders seem slow to recognise the economic doomsday machine coming towards them. Palaniappan Chidambaram, Minister of Finance, blames the slowdown partly on media scaremongering, and urges business and consumers "not to join the doom and gloom bandwagon".

After a relatively brief hiatus, which even he acknowledges will reduce growth to something close to the most recent IMF forecast of 6.3 per cent next fiscal year, he expects a rapid bounce back by the second half to former 9 per cent plus levels of economic expansion.

K V Kamath, chief executive of ICICI Bank and president of the Confederation of Indian Industry (CII), seems to agree. Speaking this week at the Indian Economic Summit in Delhi, organised jointly by the CII and the World Economic Forum, Mr Kamath insisted that the present dislocation in credit markets was a temporary phenomenon that would last no more than six to eight weeks.

"Loss of confidence has occurred because of external factors including the collapse in commodity and oil prices. Many customers are not picking up stock because they don't know where the price will settle, and that has caused demand in certain industries to evaporate.

"The Government is encouraging industry to help facilitate the price discovery process by cutting prices and he [the finance minister] has indicated that he will look at excise duties if industry plays its role. Interest rates need to be cut by two hundred to three hundred basis points and public spending brought forward."

Mr Kamath was confident that with the right signal from the authorities in terms of monetary and fiscal action, banks would soon start lending again. In contrast to their western counterparts, Indian banks were well capitalised, he said, with relatively low levels of gearing, almost none of the toxic assets of the American sub-prime crisis, and a low level of underperforming loans. What's more, he says, the banking system is almost wholly financed internally from rupee deposits.

This sanguine analysis of the strengths of India's banks may or may not be correct – others are less flattering in their appraisal – but even if true, it hasn't prevented a liquidity crisis and accompanying collapse in business and consumer confidence which now almost exactly mirrors what happened in the developed West. As it is, foreign-owned banks here are reporting a rapid rise in asset impairment for consumer, credit card and mortgage lending.

Ministers talk about policy action, and there is certainly no shortage of high-level meetings to address the crisis, but other than some limited support with liquidity and interest rates, there is scant evidence of it.

To the contrary, despite all the fine words at last weekend's G20 in Washington on reviving the Doha round and the iniquities of protectionism, India yesterday slapped a 5 per cent import duty on steel and 20 per cent on crude soya oil, ostensibly to make up for revenues lost because of the decline in demand, but also self-evidently for the purpose of supporting local producers against foreign competition.

The great fear is that tit-for-tat protectionism could turn a bad recession into a depression, and here we seem to have some early evidence of it.

Outside forecasts for the Indian economy are notably more gloomy than that of business and political leaders, and are seemingly being cut almost by the day. Goldman Sachs last week reduced its estimate of growth for next fiscal year to below 6 per cent, a number that would have been ridiculed only a few months back, but already looks if anything to be on the optimistic side.

Pramod Bhasin, chief executive of Genpact, India's leading call centres business, accuses policymakers of complacency and delusional thinking. "I strongly believe we are in the midst of a serious crisis which the data doesn't reflect," he says. "Ask small to medium-sized enterprises whether they can get credit, whether they are being paid, and so on, and the picture is dismal. Corporate and political leaders are either in denial or completely unaware of the reality on the ground."

Mr Bhasin, one of India's most highly respected entrepreneurs, goes on to demand urgent action. "We are not immune, we are not decoupled. At the moment, we are on the back foot, but what we need is direct action and crisis mode. We urgently need a fiscal stimulus. The Government still controls the larger part of the economy. The statistics they are working on are historical. This is not something we can deliberate on for three months."

As with European governments six months ago, India's political leaders have taken to blaming externalfactors for the collapse in confidence and insist that India's supposedly strong economic fundamentals will ensure that the economy pulls through in better shape than elsewhere.

Says the finance minister, Mr Chidambaram: "We are experiencing the spill-over effects of the financial crisis in the advanced countries. We are not the cause of the problem, but are being asked to be part of its solution.

"About a half of our economy is agriculture, which continues to grow strongly. We have had a good monsoon and we will have a bumper crop. This in itself will ensure reasonable growth.

"There are some liquidity problems in the small business sector, but we are determined to give the system the liquidity it needs.

"There is a slowdown, but why is growth of 7 per cent a reason to wear sackcloth and ashes? We are not facing a recession, or anything like that, either this year, or next year, or the year after".

Like Mr Kamath, he seems to believe that the main cause of the collapse in confidence is commodity prices, and he insists that part of the solution is for industry to cut prices. "Hotels must cut tariffs, airlines must cut prices, real estate must cut rates of apartments and homes they sell, car makers and two-wheeler makers must cut prices," Mr Chidambaram told the Indian Economic Summit. As a quid pro quo, the government might be prepared to consider cuts to excise duties, he added.

Unsurprisingly, this has gone down like a lead balloon with business leaders, who point to still rising costs and impaired profit margins. Yet the way things are going, companies might find themselves obliged to cut prices in any case to support demand and defend market share.

So what are these strong economic fundamentals that Mr Chidambaram alludes to?

On the plus side, the Indian economy is driven not by exports but by domestic demand, and exports should, any case, be helped by the weak rupee.

The savings rate is strong relative to Western counterparts at around 35 per cent of GDP, and the country has accumulated substantial reserves of foreign currency during the good times. Interest rates are relatively high, giving ample scope for monetary easing, and the economy is still dominated by the agricultural sector, which should be unaffected by the crunch. Housing and finance remain relatively small parts of the economy.

Yet there are negatives aplenty too. Inflation is still high, at around 9 per cent on some measures, the fiscal deficit gives limited scope for stimulus, the crisis in liquidity and confidence is now biting hard, and once-substantial inflows of foreign capital, chasing India's growth story, have gone sharply into reverse.

Despite Mr Kamath's confidence in the strength of the Indian banking system – which is still dominated by state-controlled banks implicitly underwritten by the taxpayer – some parts are quite highly geared, and are therefore likely to be forced into the same deleveraging process as Western counterparts. Foreign banks such as Citi will already be attempting to reduce their Indian exposure.

One possible panacea for India is infrastructure spending, which in a country desperately in need of it offers potential for a natural reflationary boost. The government already has plans for an additional $500bn of spending on transport, power, water and telecommunications, which in theory could be accelerated.

Yet more than a year after the grand strategy for upgrading India's broken infrastructure was announced, there is scant evidence of progress. Consultants and design engineers have not yet been commissioned for almost any of it. Given that roughly a third of the money is meant to come from the private sector, for which read foreign investors, the five-year plan now faces even greater headwinds.

To the traditional Indian diseases of corruption, bureaucracy, vested interest and lack of transparency must now be added a new virus: the credit crisis. In the current flight to safety of international money, there is little appetite for Indian infrastructure spending.

All business in India represents a triumph of hope over adversity. As Genpact's Mr Bhasin puts it: "Such are the difficulties you face in getting anything done that you cannot be in business in India unless you are an optimist – otherwise you would wake up in the morning and slit your throat."

There are still plenty of optimists about India. Most Western companies say they are here to stay and expand, despite the problems back home. The demographics of this vast nation make it a land of unparalleled market opportunity. What's more, India needs to grow, and at breakneck pace too, to satisfy the aspirations of its overwhelmingly youthful population.

In Britain, we worry mournfully about the effects of the credit crisis on our jobs and standards of living, but for India, it represents potential calamity – the difference between delivering on the release from poverty that great swaths of the population demand and degeneration into social unrest.

If optimism is one Indian characteristic, another is resignation, or passive acceptance of one's lot in life. India may need both in equal measure to get through the tough times ahead. The boom of recent years seemed to promise a better future for all. But it has proved a credit-fuelled illusion. For India, hope is again postponed.

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