India has lost close to a trillion dollars of stock market capitalization this year — even after Wednesday’s handsome revival. Can this loss in shareholder wealth damage the real economy?
There are two parts to the problem — the effects of a market meltdown on the behaviour of companies and on consumers. We feel that the former could emerge as the more serious problem in the case of India.
Illustrattion: Jayachandran / Mint
A famous warning by John Maynard Keynes is worth repeating here: “Speculators may do no harm as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation. When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.”
In that sense, the market crash is a welcome wake-up call for over-ambitious companies. And what about the rest? Most large Indian companies still have large piles of cash as well as low leverage. But most firms will need access to fresh equity at some point of time to fund capital expenditure and overseas acquisitions. The pall of gloom that now hangs over the equity market is not good news for them.
Indian consumers are less likely to be rattled by the crash. This is because Indians put a very small part of their annual savings in the stock market, either directly or through mutual funds.
The average Indian divides his savings equally between physical assets and financial assets. And even in the latter category, the safer options predominate. More than half the money is parked with banks. One-sixth goes to insurance companies and one-tenth into provident and pension funds. Very little is left for stock market investments.
How much? It depends on the state of the market. Indians put a mere sliver of their annual savings in shares in the bear-market years earlier in this decade — barely 0.1% in 2003-04. By 2006-07, the proportion had climbed to 6.3%. The share market does not get enough to make a difference to household wealth. (Losses could be more painful for those with large exposures to the stock market. Their behaviour as consumers could change — a car not bought here and a holiday not taken there.)
What this data shows is that the steep fall in share prices is far less of a problem in India than it is in other countries with a more vibrant equity culture.
How will the stock market crash affect the real economy? Write to us at firstname.lastname@example.org