Investor and author Ruchir Sharma speaks to economist and psephologist Prannoy Roy on the likely big trends of the new year. But first, here are 10 predictions for the New Year.
1 Biggest year for democracy: Many leaders, especially in Western democracies, have relatively low approval ratings. Many are going to be thrown out. Anti-incumbency, an Indian term, is going global — as a trend.
2 Politicians vs investors: Generally there’s a tendency in election years for politicians to spend a lot. Budget deficits are already much higher than what they used to be before the pandemic. Some of the investors may not like that.
3 Backlash against immigration: A surge in immigrants gives people like Donald Trump [in the US] a big agenda. It helps the US economically, but it becomes a fertile ground for political backlashes for people to capitalise on.
4 No bust, but slowdown inevitable: We have not had the classical bust so far. But don’t rule out a further slowdown. Air may come out of this balloon slowly because a lot of interest rates have been taken at fixed rates. It may take a while, but the impact will come through.
5 Time for Europe to bounce back: There are reasons why Europe may be more resilient: higher savings; they’ve already absorbed some of the pain with floating rates compared to fixed rates. Like Japan (in 2023), when expectations are very low, it doesn’t take that much to trigger some upside.
China Fading: Economy shrinking relative to the world
6 China fading: Money is fleeing China. Global investors want to de-risk from China. There’s so much geopolitical tension. Some of the growth drivers aren’t there anymore. Their population is shrinking, which is not great for economic growth or dominance.
7 Stars emerging outside China: Mexico is doing particularly well. Even countries like India, Vietnam, Indonesia are benefiting from global investors de-risking from China. There is a huge opportunity for India.
8 Dollar decline could accelerate: The dollar has already been declining. Historically, once a dollar decline begins, it tends to last for 6-7 years. We could just be in the second year of that. And typically in the second year, you tend to see the decline accelerate.
9 Hype in AI stocks could get reality check: It’s a huge revolution, so expectations have been very high and they’ve all been loaded onto the ‘magnificent seven’ stocks. But if you look at the historical templates, it takes a while for the expectations to be realised, for companies to know how to monetise.
China Fading: Net FDI flows negative for the first time
10 Political agenda hurting movies: It’s an under-appreciated reason for why people aren’t going back to the movies like they used to go. There’s a lot of self-congratulation in India about four-five massive hits, but the data shows that it’s going to take a while. And look at the contrast with cricket.
And now, the likely big trends of 2024
Prannoy Roy: If you want to know whether you should buy or sell shares this year, whether you should expect the dollar to get stronger or weaker against the rupee, that will affect your holidays, and many, many more forecasts that should and could change the way you tackle your income and spending in 2024…
Thanks very much, Ruchir, for joining us.
Ruchir Sharma: I think it is great to sort of recap first how the year has gone by, and also to try and forecast what’s going to come by. And a key thing, there are two forecasting rules I try and keep in mind while doing this.
One, that all because a new calendar year begins doesn’t necessarily mean that a new trend begins. Many of the trends may be carried forward from what was already happening in the previous year. Trends don’t care about calendar years, just that we like to define them that way.
Dollar Decline: Downcycles tend to last 6-7 years
And the second, it’s always a mix of contrarian and some trends which are predictable. We always like to sound very fashionable, come up with major contrarian things, or sometimes say things with great certitude, which is already happening. So, I think just a mix of those two is what shapes these trends that we’re going to speak about for the year.
Roy: Let’s see what your forecasts are now for 2024, for the year ahead.
Your first forecast is that this is going to be the biggest year for democracy. In fact, 46% of the world’s population will have elections. That’s the highest since 1800.
There’s been a major change in the way people vote. Now, only 30% of governments are voted back. There is 70% anti-incumbency. Ten, fifteen years ago, globally, 70% of governments were voted back. There was pro-incumbency. [Psephologist] Dorab [Sopariwala] coined this phrase “anti-incumbency” many years ago, and the world is catching up with Dorab finally.
Dollar Decline: Central bank gold buys at record high
Sharma: This term is a very uniquely Indian term, but I think that the rest of the world are going to start using it much more. We looked at the analysis that people had done… The approval ratings of leaders, those now declined steadily in the first term… The chances someone like [Joe] Biden getting re-elected today, the betting market puts the odds at not much better than 30%. What are the implications?
One of the implications is that…because [whether] it’s income inequality or general pain that people are facing, that we have this tendency to throw the leaders out. So, I think that most leaders going to the polls this year run the risk of losing their re-election bid.
Roy: It’s amazing… So, it’s like the world is going back to where India was in the late ’80s. Your next forecast for 2024 is that with elections coming, governments will spend more, and budget deficits will go up. They could rise further. But investors don’t like that. So, they’re going to push back. In fact, if you look at the budget deficits, America has gone from 3.5% to 6% of GDP; India from 4% to 5.6%, approximately. Mexico, 2% to 4%. Elections are coming. They’re going to go up even further. So, investors are worried about that.
Sharma: Investors will demand a greater premium for holding government debt, just because there’s so much supply which is going to be coming. And in an election year, there’s a tendency for politicians to spend even more. …[Leaders’] approval ratings in general are low. Now, of course, it’s an exception in countries like India and Indonesia, but in most places, approval ratings of leaders are low. They’re going to be tempted to spend even more, because the easiest thing is to spend other people’s money. But the tension they’ll face is that the budget deficits are already very high.
Non-China Starters: FDI flows as share of global FDI (%)
Roy: You call it an epic clash between politicians and investors. And if you look at India, the biggest worry is the deficit of states. Their budget deficit is a higher percentage of overall budget deficit than ever before. Just explain that.
Sharma: It’s also because the amount of spending which is done by Indian states is very high. In that way, we have a true federal system, that more than 50% of total spending by government in India is done at the state level, which is nearly twice as high as the global average. In India’s case, most of the spending is done by the states. A lot of the spending is going towards freebies and other populist giveaways…
Roy: As a side aspect, calling them freebies, giveaways, etc… There’re also welfare measures involved… When it’s targeted right, it does help the poor.
Sharma: It’s just about the proportion. All countries need welfare spending. Question is how much can you afford and how much are you spending towards infrastructure and capex, and how much are you spending towards welfare?
Non-China stars: Capital flow to other emerging markets
…Because of the general election…the pressure [to spend] will be much more… It’s not just about India, [it’s] across the world. The biggest risk for me is the United States, that they used to run a budget deficit of 3% and now it’s going to be 6% for the foreseeable future.
Roy: Your third forecast, which is actually quite worrying as well, but on a completely different issue… There’s been a huge amount of migration into the developed world. There’s going to be a backlash against immigration is what you say. [In] America, immigration is up 35%; UK, 45%; Canada, up 20%; Australia, up 25%.
But you also say that actually it’s helping India a bit because NRIs are emigrating from here, are sending back money and it’s gone up to [$] 125 billion in remittances to India [in 2023]. That’s hugely helpful for the economy.
Sharma: More than 3% of GDP, much more than FDI or other sources. In fact, if you take NRI deposits, that’s another three and a half per cent of GDP. So what the NRIs and Indian diaspora are sending back to India is quite significant.
From a developed country standpoint, one thing we have to remember is that in the last year, immigrants, in fact, played a major role in easing labour shortages, in cooling wages down, and also bringing inflation down… But it also leads to social tension. And the numbers, they are just [of the] legal immigrants. The illegal immigrants in places like the US are even higher than the legal immigrants. And now we’re seeing that there’s a lot of backlash against that.
Roy: Immigration is helping the West, but it’s also helping Donald Trump because [of] that social tension you talk about… Now, coming to the economy and your next forecast, you’re saying that there’s going to be no bust, no terrible recession, but there will be a slowdown. And one of the reasons is that stocks now are not as overvalued as they were earlier. They were overvalued 45% in 2021. Now, they’re overvalued 20%. So, there’s not as much of a drop to happen. You’re also saying the rise in interest rates will have no immediate impact because a lot of, say, US interest rates are fixed.
Sharma: The big mystery, I think, for many people was that why was there no recession in 2023, despite the fact that the Federal Reserve raised interest rates so aggressively over the past couple of years? And that mystery is partly resolved by the fact that even though the Fed was raising interest rates, a lot of the US consumers, corporations, had fixed interest rates. Therefore, they didn’t feel the impact of high interest rates there.
But over time, if interest rates remain high, that impact will be felt because you have to refinance it and every year some people will need new loans. So, there’ll be a slow impact. So, what my forecast here is, that this is a long grind, you will get a slowdown, but it’ll be spread over time. It’ll be elongated. It won’t be like one of those sharp shocks of 2007, 2008…
Roy: Staying with the stock market, it’s a little worrying for India because you say, risk to India is from very high expectations, that India’s stock market valuation is the most expensive in the world. Our stock market valuation is 22. This is the PE ratio. US [is] 20 and the rest of the world only 14. Are the expectations too high?
Sharma: In general, the overall economic scenario for India looks pretty good. My only concern is that a lot of this is maybe in the price because expectations are very high. And also, the volatility of the Indian stock market today is technically the lowest in the world. So, it’s the most expensive market and the least volatile market.
Roy: Moving on to quite a major forecast you’re making about Europe, which is lagging behind everywhere, and you’re saying [it’s] time for Europe to bounce back… Since 2011, Europe has lagged behind the US. You’re saying, now, Europe is going to bounce back.
Sharma: I think that people are very bearish on Europe, that everyone talks very negative about Europe, and rightly so. My point is that expectations are very low out of Europe today and Europe has already had a serious downturn. There is a list of reasons as to why potentially Europe could surprise on the upside.
[First,] the savings rate. Lots of governments give massive amounts of stimulus. In America, the consumer got the stimulus and has gone and virtually spent all of it. In Europe’s case, they have saved a lot of it, partly because of the fact that they are much more cautious. So, they have a much bigger savings net.
Roy: You also said that there’s hope for the future that Europe’s inflation has declined more than the US.
Sharma: Apart from being under control, it’s the fact that it’s fallen from very high level. They suffered enormously from the Ukrainian energy crisis. But now that energy crisis is in the rear view window. Things are looking a bit better for consumers…
Roy: Then, Europe’s wage growth is rising.
Sharma: …Because purchasing power has improved because of the decline in inflation… And then…in Europe, a lot of people had taken floating exchange rates. They suffered the shock much more…
Roy: [They have] already absorbed it.
Sharma: At least part of it compared to America. These are some of the reasons why I think that Europe has a chance of surprising on the upside.
Roy: Moving on, China. China, you say, is fading. The economy is shrinking relative to the rest of the world. The gap between the US and China economies was narrowing, but has now started widening.
Sharma: [The Chinese] want to be the world’s largest economy. And…just a 30% gap was left [with the US] in 2021. But [in the] last couple of years, especially last year, the Chinese economy has been slipping. And you have the US economy, which has been relatively resilient. So, the gap is opening. Even in the global share, China is slipping. US is sort of doing well. And there are some of the other countries, India, Indonesia, Poland, Mexico. So, these are the countries which are gaining share.
Roy: One of the key things which you forecast and highlighted is that to a large extent China’s growth was also helped by a lot of foreign investment, FDI. And now you’re saying capital is fleeing China. Net FDI flows are negative for the first time.
Sharma: Because during the boom period in China over the last couple of decades, there were some quarters where the Chinese economy attracted FDI of 100 billion dollars. Remember, India gets 50 billion or so in the entire year. But how sentiment has shifted, that for the first time in recorded history, since this FDI data began for China in the last quarter that we have data for, there was negative, an outflow of 11 billion from China. So, it just tells you about how capital is getting reallocated and which countries are benefiting.
Roy: Stars [are] emerging outside China. Capital is leaving China for other emerging markets.
Sharma: And my feeling is that this year in 2024, if the dollar weakens, then we are likely to see far greater capital flows.
Roy: That’s one of your forecasts. You have said that the dollar decline could accelerate. In fact, US dollar downcycles, if you look at your graph, last six to seven years. And now, the downcycle of the dollar has just begun. So, it could continue for another few years. And you also say, there could be alternatives arising. For example, you point out that banks are buying gold now at higher level than ever before.
Sharma: One of the major geopolitical mistakes that America made was to impose sanctions on Russia in 2022 in the way it did, which is that it virtually threw Russia out of the international payments system, seized its foreign exchange reserves. Morally, that may have been the right thing to do. But what it did was send a chill across many countries that if America can do that and has such great control over the financial system, then what stops it from doing it to us one day?
And, so, I think, that’s really what has started a move for central banks to say we can’t be this dependent on the US dollar. We cannot have so much of our foreign exchange reserves stored in the US dollar.
Roy: And, what about gold getting stronger, that people should invest in gold, I think…
Sharma: I think generally, that having some investment in gold does make sense because people are looking for alternatives. The problem today is that…the alternatives to the US dollar aren’t there so much, right? Because, the Chinese should have been the alternative. The Chinese economy is still 17% of the global economy. [But] China’s share of the global payment system is very small. No one really trusts holding the Chinese currency given what it’s backed by. So, what do you hold? So, things like gold, I think, have been alternatives that central banks have been holding, and other smaller currencies, the Swiss franc, the Australian dollar, the Canadian dollar.
Roy: If you had to choose a star competitor to China, is there one or is it going to be multiple?
Sharma: It’s very hard to come up with just one. Obviously, sizewise, India… But we know that does India have the policy mix to implement the growth rates of 10, 12 per cent? The opportunity [for India] is huge because I think that people in the US have made up their mind that from a strategic standpoint, they want to de-risk from China. The issue is that which countries have the scale which can give them an alternative to China? So far, there’s no one country with scale. So, they’re spreading their bets. But India could be that logical choice where so much capital could come in if it was so much easier to do business here on the ground.
Roy: Your next forecast. You said the hype in artificial intelligence stocks are going to get a reality check. You’re saying people have overemphasised it. You’re saying for companies to monetise AI, it will take time like all the other ones.
Sharma: I think that AI is skewed… Which is, the tech sector in general has been in a mini recession. And that’s what the data shows. But it doesn’t show up in, let’s say, the stock market performance because it’s so skewed by the AI wave. I’m not saying that AI is not for real. It’s a huge revolution.
But if you look at the Internet revolution as well, you know, it was here in 2000. But…it took time to monetise it. It took many years for the Apples or Googles, and the other companies…till about 2009-10, to start taking off. My point is that there’s been a lot of AI hype which has lifted many stocks, particularly these mega cap tech stocks. Even those which have no AI experience so far, like Apple, Amazon…
Edited excerpts from the conversation. Ruchir Sharma is Founder and Chief Investment Officer of Breakout Capital, an investment firm focused on emerging markets. The forecast and analysis are both by Sharma and his team at Breakout Capital. Watch the full show at http://www.dekoder.com