The turmoil in the Indian stock markets showed signs of abating on Friday. The benchmark BSE Sensex recovered from 19-month lows to rise by 0.33 per cent and the broader Nifty rose by 0.44 per cent. This is significant after both fell by over 4.50 per cent during the week. For the most part, it was the ripple effect of the uncertainty in the Chinese markets, which were halted twice during the week, as they fell sharply. At one level, that is how markets can sometimes behave, with temporary effects. Indeed, the Chinese growth story has been unravelling for a while now.
It is known that China’s economy is struggling with massive inventories and finding it tough to transition from an export-led growth model to a domestic consumption-led growth strategy. But it is the allied fear of a currency war that is the real worry. On January 7, China devalued the yuan (against the US dollar) by 0.51 per cent. This is the lowest it has fallen against the dollar since March 2011. A “cheaper” yuan would make Chinese exports more attractive against other competitors, including India.
Predictably, the move sent markets across the board into a tizzy. The rupee fell to a three-week low of 66.93 on Thursday, before recovering by 33 paise on Friday. This fall is essentially due to the Chinese devaluation, and not because India’s fundamentals have changed, and therein lies the challenge of macro-economic management in the new year.
To be sure, 2016 has begun on a note of heightened uncertainty, economic and geopolitical. The global picture looks gloomy. On the one hand, economic growth has been hit hard by the slowdown in economies like China, Russia and Brazil. This is reflected in exports being a non-starter. On the other hand, there is an escalation of hostilities in West Asia and trouble brewing on India’s western borders. Add to that the tenuous nature of India’s economic recovery.
The turmoil frames the challenge for policymakers. India is the only bright spot, at least for now, in the global economy. Whether it will stay that way or not will largely depend on how skilfully the government uses its expenditure to spur economic activity. The Centre might be forced to suspend further reduction of the fiscal deficit as well as squeeze every last penny through better tax collection and more dividends from the PSUs. But the real solution lies in reforms — in banking, in administration and in better laws. The coming budget session will signal if the government is up to the task.
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