The year 2010 will perhaps be looked at as significant for India from the perspective of its international image. At a time of a steep global recession, India has not only managed to keep its head above water but also show strong growth, making it standout from the rest of the world. On the other hand, it has missed consolidating this strength further in being underprepared for the Commonwealth Games held in the capital city of Delhi in October. The CWG reflected most seriously an underbelly of corruption and the need for stronger planning and execution capabilities. This is particularly glaring in light of the fact that China, which India is often compared with, made a strong showing at the Beijing Olympics in 2008.
Yet, if the two facts are put together – strong growth coupled with serious constraints to progress - an interesting aspect emerges. The Indian economy now has a momentum of its own. The process of opening up of the economy in 1991 that lifted it out of what was sometimes called the ‘Hindu rate of growth’ of about 3.5% continues to yield dividends. The reforms have been supported by a large domestic economy, favourable demographics and a rapid rise in the private sector. In fact, the World Bank in its recent forecasts states that India’s growth is set to outpace of that of China in 2011 with a growth rate of 8.7% while China grows at a marginally slower 8.5%. The Indian Prime Minister’s Economic Advisory Council pegs India’s growth to be even higher at 9%, bringing the size of the economy closer to USD 2 trn mark in the next financial year.
To achieve and maintain these growth rates, it is widely recognized by policymakers and politicians across parties in India, that a stepping up in investments is required. To this end, India is in the process of further opening up to foreign direct investments. 2011 may then, well be the year when multi-brand retail is opened up to foreign direct investments, which will allow global retail giants like Walmart to enter India. In a strong reflection ofIndia’s democratic governance, the decision has been hanging in balance since there are concerns that it will displace the unorganized retail sector which is an employer of appreciable size in the country today. The retail sector as a whole employs 7% ofIndia’s workforce. On the other hand it is argued that if the sector is opened up, the displaced employment could find a place in the organised sector, it will meet the fast growing demand for India’s consuming class at reasonable prices and will have beneficial spill over effects on sectors like warehousing and cold chains.
While Indian authorities have tried to encourage FDI into India, an interesting facet with respect to direct investments has been witnessed with a rise of outbound investments from India. While outbound FDI is on an average about half of the inbound FDI into the country, it could be a trend that is gaining momentum. With rising global aspirations, India’s private companies have in particular been engaged in acquiring abroad. This trend hit a strong growth in 2006, when the value of outbound M&A deals rose to over USD 20bn, up from USD 5bn during 2005. While the numbers dwindled during the recession, in 2010, outbound deals are on an upwards trajectory again. According to some reports, this could gain further momentum in 2011 as European and American companies look to sell off non-performing and non-core assets post the recession.
A rise in outbound FDI flows plays its part in keeping the Indian exchange rate appreciation in check. However, a worrisome aspect over the recent years is the rise in FII flows or hot-money flows. In the year so far, India has already witnessed FII flows of over USD 25bn. FII flows have led the recent rally in the Indian equity markets - the Sensex, which is the headline Indian equity index, has risen by almost 20% over the course of the year. With the Indian economy being robust, particularly in comparison with the rest of the world, rising investor risk appetite and falling interest rates in the developed world, strong FII flows are set to strengthen further in 2011.
Strong FII flows are usually followed by currency management by the Indian central bank, the Reserve Bank of India, to keep a check on an appreciation of the rupee (which has seen an appreciation of 3.5% since the start of the year). Unabated currency appreciation erodes the competitiveness of employment generating export oriented sectors like gems and jewellery and textiles. However, currency management comes at its own price- it is liquidity generating and hence carries the risk of fuelling inflation. Inflation has been tough to manage for the RBI this year, a base effect and come off in food prices could provide a breather, but liquidity could keep inflation from staying in check in 2011. As a result, balancing liquidity management is likely to be a strong priority for the RBI in 2011. The interest rate hike cycle inIndia has already started earlier during the year, and the central bank could resort to aggressive measures to suck out liquidity from the system going forward.
On the policy front we should expect government focus to shift from managing the impact of the global recession on India to inclusive growth in 2011. The ongoing 11th five year plan for India(2007-12) stresses on inclusive growth, essentially referring to the fact that high growth should benefit everyone in the economy and not a restricted few. Indeed, the mid-term review of the plan states that since 2004-05 the reduction in poverty is “less than what might have been expected”. Fiscal consolidation is also expected to come back on the radar. The central government was committed to decreasing its deficit as a proportion of GDP overtime. However, the stimulus packages that followed the recession threw the process out of gear.In sum, 2011 for India could see the country grappling with issues similar to those in the pre-recession period. The economy is expected to reflect strong growth, with liquidity management at the core of the central bank’s policies and inclusiveness and fiscal consolidation as priorities for the government at the centre. There could be some headway in allowing foreign investments in hitherto closed sectors like multi-brand retail on the one hand and increasing investments outside the country by India’s private companies.
Disclosure: no positions