Amidst taper concerns; how India 2022 compares with India 2013

14 Mar 2022 , 08:56 AM

Ahead of the all-important US Fed meet next week, there appears to be a consensus on a 25 basis points rate hike. However, the bigger question is how India would react to this rate hike and a possible bond taper by the Fed? Will the RBI continued to focus on growth or would it now put inflation concerns on top? The question was answered by the RBI Deputy Governor, Michael Patra, in his address to IMC, “Taper 2022: Touchdown in Turbulence”.

Why this debate is important for India?

If there is one theme that has emerged from the central bank sound bites globally, it is that the days of abundant liquidity are well and truly over. That is one of the main reasons why global stock markets are correcting so sharply, since financial assets are getting re-priced lower to account for weaker liquidity drivers. The shift from quantitative easing (QE) to quantitative tightening (QT) has already started and every country, including India, has to contend with the outcome of this shift sooner rather than later.

It is not just the RBI, but central banks across the world are in a dilemma. Will a rate hike actually sober the surging inflation, caused by supply chain bottlenecks? Is a very tight policy advisable at a time when high-frequency indicators are hinting at growth losing steam? Will the tightening result in the opposite impact of slowing growth in India and across the world? Above all, what will be the outlook for the Ukraine imbroglio and what happens to crude? Obviously, there are no easy answers.

Unlike previous occasions, monetary policy this time around, is likely to be a lot more synchronized. That means; if the US Fed gets hawkish, then all the major central banks including the RBI would prefer to follow suit to avoid monetary divergence risk. The decision dilemma is that it is much easier to go into accommodation than to come out of it. Back in 2013, India was identified among the “Fragile Five”; economies most vulnerable to a post GFC taper. At that time the rupee and Sensex had crashed. This time, the Indian economy looks a lot stronger.

How the world in 2022 differs from the world in 2013?

It is said that comparisons are odious, but some comparisons of the current situation with the taper tantrum of 2013 is inevitable. Here is how 2022 compares with 2013.

• Global macros are almost similar in 2022 versus 2013 because back then economies were coming out of the GFC, and advanced economies were doing a lot better.
• Like in 2022, even 2013 saw the first efforts of central banks to exit accommodation with considerable uncertainty about the future course of monetary policy.
• The big difference is inflation. Forget about crude oil levels, the overall levels of inflation in 2013 were more subdued compared to what it is in 2022.
• In 2013, Fed struggled to unwind $85 billion monthly bond buying, while $120 billion is already wound up now. Fed balance sheet in 2022 is more than double at $9 trillion.

In short, the world economy is bigger and more complex in 2022, but inflation and the war situation in the Caucuses presents a unique dilemma for monetary policy.

How different is India in 2022 compared to 2013

While the global cues are important, there is a popular aphorism in economics that in an economic crisis, you are normally lonely. So, how does Indian economy in 2022 compare with the Indian economy in 2013 period? Here are some key takeaways.

• One of the big lessons of the global financial crisis was that Indian economy lost momentum when the stimulus was withdrawn. While private consumption remained strong, industrial output remained tepid, which eventually resulted in India being classified among the “Fragile Five” economies in 2013.
• Unlike in the post GFC period, the pandemic actually led to negative growth in India in FY21. Even today, the output is just getting back to FY19 levels. For FY22, GDP will be just 1.8% above pre-COVID levels, so the room for error is still limited.
• India’s growth story remains as vulnerable as it was in 2013 with an added risk of the Ukraine war. However, the government focus on capex is likely to be the big difference. Also, trade has been a big driver of growth with exports seeing a major thrust.
• Lastly, on the subject of inflation there are a number of similarities viz. oil has been above $100/bbl, rural wages have driven food inflation higher and core inflation has been persistent. The difference is the more benign oil tax rates back in 2013.

In reality India may be a lot safer in 2022 than in 2013

On paper there are some clear similarities between 2013 and 2022. Global crude prices are high as are gold imports. And, inflation in 2022 is much higher than inflation in 2013, with a strong geopolitical risk thrown in. Despite these factors, the external resilience of the Indian economy is better in 2022 than in 2013. Here is why.

The first reason is the current account deficit. Back in the 2009-2013 period, the current account deficit had averaged 3.7% rising to 6.8% ahead of the taper tantrum crisis in 2013. In contrast, current account deficit as a share of GDP has averaged 1.1% between 2014 and 2021 with a worst-case CAD of just about 2.4% of GDP.

Secondly, the cushion is likely to come from a robust exports sector with FY23 targets for exports set at $450 billion for merchandise goods and $300 billion for services. This is likely to be boosted by a slew of bilateral trade agreements as well as focused export boosting schemes like Production Linked Incentives, Make in India, dedicated industrial parks etc.

Thirdly, in 2022 FDI funds 100% of the current account gap while in 2013, FDI funded less than one-third of the gap leading to drawdown of reserves. As a result, forex chest at $640 billion looks very impressive in 2022. India also saw a sharp fall in the ratio of short term debt and has one of the lowest ratios of external debt to GDP among emerging markets.

To sum it up, the big difference between 2013 and 2022 is the strength of India’s external sector. If the Fed tightens, RBI may still follow suit. However, the Indian economy is a lot more resilient today than it was in 2013.