Home / Opinion / Columns /  Opinion | An intensifying whimper that has begun to take a global toll

Suddenly, there is another economic crisis and stock market wobble upon us.

If the global economic flu in emerging markets over the last few years was caught from a “taper tantrum", this one appears to have been acquired from an “intensifying whimper". Both terms are counter intuitive, the earlier “taper" referring to a normalization (increase) of below average dollar interest rates, and the newer “intensifying" referring to reduction in both nominal and real dollar interest rates in response to slowing growth.

The economic situation around the world is rather grim. From synchronized global growth in the first half of 2017, we now appear to be in the midst of a synchronized slowdown exacerbated by the US-China trade war, and on a hair-trigger from perceived “negative" political events around the world. The proverbial “butterfly flutter" last month was caused in Argentina, where the Peronist candidate Alberto Fernandez (in partnership with the left-wing populist and former president Cristina Fernandez de Kirchner) won the presidential primary against the incumbent Mauricio Macri. The Merval Stock Market dropped 48% in a single day (the second largest single-day drop). The peso has fallen by 85% over the last three years.

Many countries in Europe have already been or have now fallen into negative interest rates, with Switzerland, Denmark, Sweden and the Eurozone all with minus signs on interest rates. Including Japan, countries that account for almost a quarter of total global output now have central banks with policy rates set below zero. The amount of so called “sub-zero" debt, that is debt with negative interest rates, is at an all-time high of $15 trillion. Europe’s slowdown is fully demonstrated by the entire German yield curve going below zero last month. If rate cuts of the same magnitude as 2007-2009 were to occur, all G7 countries would have negative interest rates, a situation that has never occurred before.

The US economy, on “steroids" from the tax cuts of 2017, has lost steam. Real growth is tapering towards 2% on an annualized basis, with some estimates now below 2%. US consumer sentiment is still holding up because of low unemployment and despite businesses being much more cautious about exports and capital expenditure. The US Federal Reserve (Fed) will likely cut rates at least two more times in 2019 and probably more if growth slows below an annualised 2%. If the Fed does not read the tea leaves properly, there is a real risk that the US could go into recession (defined as two quarters of negative gross domestic product growth) sometime in 2020.

A synchronized cyclical slowdown by itself is usually only a temporary problem, but the issue this time is that large parts of the world are starting from negative interest rates. This means that monetary policy stimulus as a method to combat the slowdown is rendered largely ineffective, and central banks in Europe, Japan and the US may have to once again increase the size of their balance sheets. The only other choice is to use fiscal expansion to counter the slowdown. A third choice is to take the impact of the slowdown without too much of a cushion, but democracies are ill-equipped to deal with the negative political reaction to prolonged recessions that are left to mend themselves.

For emerging markets, buffeted two years ago by the taper tantrum and now by this synchronized slowdown, it is decidedly not good news. In general, however, they have positively shaped yield curves and the opportunity to use interest rates as a tool of stimulus.

Despite significant variations in global growth, oil prices have ranged between $50 and $70 a barrel over the last few years. This has meant that the pressure on India’s balance of payment (BoP) has stayed even as global growth has slowed. Add to this the fact that China has elected to weaken its currency to combat the trade war, and India is left with little choice than to weaken the rupee in step. A weakening rupee would reduce India’s flexibility to dramatically decrease interest rates.

The lesson from all of this is that India must use any window of opportunity to undertake any structural reforms that present themselves. For India, these windows are typified by low oil prices, good global growth, and moderate inflation. UPA II lost out to crony capitalism, and Modi 1.0 was preoccupied with consolidating political power. Both squandered opportunities to undertake meaningful structural reform, leaving us with little monetary flexibility and even less fiscal space now.

India’s medium-term economic growth will once again be supported by favourable demographics and the early stages of a new global cycle, whenever it happens. In the short-term, though, we have limited options. Given the slowdown, the government is unlikely to summon the political will to undertake deep structural reforms that may further impact growth and employment in the short-term. This type of thinking has postponed reforms time and again. A clever cocktail of a stimulus and structural reforms is needed. The stimulus should take the form of government infrastructure investment, rather than compensation spending, and the incentivization of the private sector to invest funds under well-aimed and time-bound schemes. Reforms must focus on factor markets and on the ease of conducting business.

PS: “When the going gets tough, the tough get going," sang Billy Ocean.

Narayan Ramachandran is chairman, InKlude Labs. Read Narayan’s Mint columns at www.livemint.com/avisiblehand

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