Mumbai: In its recent financial stability report, the International Monetary Fund said while there is no asset bubble now in emerging markets, the threat exists. I.V. Subramaniam, a director at Quantum Asset Management Co. Pvt. Ltd, spoke in an interview about the risks for India. Edited excerpts:
What are the risks of asset bubbles forming in India?
When excess liquidity in the system winds its way through banking channels to non-productive use, the price of assets is driven higher and higher. Beyond a certain stage, there is no fundamental reason for the asset prices to go up, and this leads to a bubble-like situation, which is waiting to burst. Currently in India, asset prices are nowhere near this territory and, as such, there is no real risk to asset bubbles forming. Credit in the country is not growing aggressively and that is an added conviction that the risk to asset bubbles forming in India is low.
However, this does not mean that asset prices cannot decline. As part of normal market functioning, one could expect asset prices to decline or make an upward move based on (a) normal demand and supply situation. There may also be pockets of asset bubbles formed.
Which categories are most likely to see an asset bubble, and why?
Graphic: Ahmed Raza Khan/Mint
As explained earlier, there is no imminent risk of asset bubbles (forming). However, if an asset bubble does form, in all due probability it may happen in real estate. Even so, it will most probably not break out in all parts of the country, but rather in certain pockets. The reason for shortlisting the real estate sector as the most probable one to witness an asset bubble is the excess liquidity flow in the past to this sector.
Do you think global liquidity is a more important factor for asset price inflation than local money?
Excess liquidity in any form, local or global, may lead to asset price inflation. At any point in time, on a relative basis, one of them, global or local liquidity, could be more important than the other.
Currently, global liquidity is probably a more important factor for asset price inflation than local money.
Given that the accommodative monetary policy of advanced economies is likely to continue, does the risk of asset price inflation in India increase?
The accommodative monetary policy of advanced economies puts us in a situation where we have to grapple with two issues: liquidity and (the) exchange rate. If we focus on not allowing the currency to appreciate, then we may have excess liquidity in the system. In such a situation, if the banks also follow an aggressive loan growth philosophy, it may potentially lead to all kinds of inflation, including asset price inflation.
Presently, the US dollar has risen against the euro and (pound) sterling but not against the Asian currencies.
In hindsight, we may be able to gauge whether the West was recovering. However, currently available data shows that the recovery in the West is not really happening—both in America and in Europe. This means that interest rates are unlikely to move up rapidly in the Western world in the immediate future. Hence, it can increase the risk of asset price inflation in India.
While the risk is there, I do not see any asset bubble-like situation yet. The central bank in India is slowly tightening liquidity, so excess liquidity and any resultant credit growth may not be an issue at this point in time. However, just to reiterate, while there is no bubble-like situation, the normal cyclical movement in asset prices would happen, and as liquidity is tightened in India, prices are likely to decline in certain asset classes and in certain categories with the asset class. For instance, real estate prices may decline (more) sharply in certain cities than in others.