At the beginning of 2022 global economy was recovering from the pandemic. The Russian invasion of Ukraine led to supply chain disruptions, commodity prices peaking to new highs, and geopolitical tensions. The Chinese government’s Zero-Covid policy of stringent lockdowns to contain outbreaks impacted the global economy further. Nations levying sanctions on Russia had deteriorated the global growth outlook, with advanced economies poised for a slowdown.
The previous market downturns were followed by an easing monetary policy that served as an antidote; however, unlike previously, an immediate easing policy will not be followed this time by advanced economies. We are coming off one of the most significant tightening in history as governments withdraw COVID stimulus and raise interest rates to control persistent multi-decadal high inflation globally. An uncalibrated series of rate hikes pose the risk of an economic slowdown for economies. In the last twelve months, the fed funds rate has seen the largest changes since 1981, in the ECB target rate since the creation of the eurozone, and the broadest tightening of global central bank policy since 1980. That tightening has been so aggressive because inflation is persistently beating expectations. This infatuation with interest rates, geopolitical tensions, and uncertainties globally has led to investors moving money to the US and the dollar reaching record highs while other currencies lose value.
Slower growth masks the US facing a downturn if core inflation persists, Europe goes into recession driven by an escalation in energy prices, and China remains cautious and delays reopening.
The higher interest rates in the advanced economies are leading to real estate bubbles in these countries. As the real estate bubbles deflate, the wealth of individuals decreases, leading to lesser spending that will further slow down these economies, impacting imports from other countries. In October, India’s exports of non-oil goods were at $25 billion, ~18 percent lower than last year and 28 percent lower than the highest monthly goods exports of $34.7 billion.
In India, the service sector dominates, contributing over 50% of gross value added, while the manufacturing sector contributes less than 20%. The global supply chain disruptions affect the manufacturing industry significantly more the overall impact on the domestic economy is expected to be lower. The slowdown in advanced economies may lead to falling exports of several items, including engineering goods, petroleum products, gems and jewellery, and textiles impacting domestic exports in FY23. Since exports constitute less than a fifth of the domestic economy and factoring in the reduced exports, India’s GDP will continue to be amongst the fastest-growing emerging countries and is expected to grow at 6.8% in FY23.
Indian equity markets are diverging from the global trend and have become less sensitive to Fed rate hikes, US growth conditions & FII selling. India is vulnerable to oil shocks since it imports over three-fourths of its energy requirements. However, India was able to strike a deal with Russia due to its healthy relationship with the country. It started importing additional quantities of oil from Russia at reasonable prices helping inflation moderate compared to the advanced economies. Markets have been resilient mainly due to the persistent domestic flows signalling an indication of increasing household equity exposure. Interest rates for US & India and Dollar Index are expected to peak next year. Coupled with that, the slowdown in major economies will lead to FII money moving toward emerging markets.
India’s superior growth profile is due to structural factors like PLIs, FTAs, alternate technologies/fuels, domestic demand, favourable government policies, and healthy balance sheets (BS) of consumers, corporates, and banks that drive GDP higher. Considering the global economic slowdown, domestic-oriented sectors, compared to export themes, are anticipated to do better in the near term. Since Indian exports currently account for only 2% of global exports, the PLI schemes, and Free trade agreements are being actively pursued by India, and we expect the export-led themes to drive growth over the long term. Since India is relatively well placed, and supported by government policies, with growth across sectors, domestic markets are to be volatile in the near term. Still, the earnings of corporates are continuing their momentum, and the capital markets will follow the lead and reach highs over the long term.
Author: Mr. Anil Rego, founder, and fund manager at Right Horizons
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