Investors could not have wished for a better outcome of the elections. They now have stability, because the government will have the numbers to last its entire term. They have continuity, because Manmohan Singh will be heading the government. They have hope, because of his reformist credentials. And what they do not have is the Left Front, which had done so much to hold up reforms in the last five years.
Liberalizing foreign direct investment, disinvestment and perhaps even labour law reform will no longer be taboo. Incentives for investments and the auction of spectrum for third-generation telecom applications, all of which can bring in global money, are also hugely positive moves that can be expected soon. At the same time, the stability of the new government will allow it to follow prudent financial policies as well as reforms because it will be free of populist pressures for at least the next three years.
Manas Chakravarty. Consulting editor, Mint
Long-term infrastructure projects can now be executed. And perhaps the most important outcome of the elections of a stable government not dependent on the Left is that it will have the political will to tackle the bloated fiscal deficit, not by reducing capital expenditure as it has done in the past, but by measures such as disinvestment.
Business confidence will improve substantially, which is often an essential precondition for economic recovery. As a research note by Goldman Sachs’ Tushar Poddar and Pranjul Bhandari points out, “Economic activity has increased immediately after five elections out of seven since 1984. On each of those five occasions, a coalition perceived to be stable, has come to power.”
Simply put, the risk in the Indian market has been substantially lowered by the election outcome. So the market has plenty of reasons to celebrate and will certainly send out a resounding welcome to the new government on Monday.
That welcome is likely to be reinforced by the participation of foreign investors. The reappearance of risk appetite has led to a resumption of funds flowing to emerging markets. The MSCI Emerging Markets Index is up 21.89% this year, while the MSCI World Index is flat. Asia ex-Japan funds have been taking in large amounts of money in recent weeks, but a large part of those flows have gone to China, as a play on the revival of the Chinese economy. It’s very probable that flows to India funds will now strengthen.
MSCI data show that the Indian markets have outperformed the other Bric nations (Brazil, Russia and China) and the emerging markets in the last three months and year to date. That outperformance should now continue.
The divergence in performance is not based on liquidity alone—the fact that growth continues to be positive in both China and India while being negative in the developed countries will reinforce the fund flows. It’s also true that many investors have been sceptical about the current rally and have therefore missed it. As they start putting some of their cash to use, the markets could be propelled higher.
Once the euphoria fades, though, the markets will have to rely on the fundamentals. While we’re seeing some signs of recovery, they remain very weak, and meanwhile equity valuations have moved up very sharply. Most experts believe that a V-shaped recovery is out of the question and the developed economies, in particular, will take years to get back to health.
In the circumstances, the rally will continue to be a bear market one, susceptible to a sharp pullback should conditions not improve in the developed countries. But in the immediate future, the markets will breathe a huge sigh of relief that one big risk is out of the way.
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