By Vivek N. Joshi
Advisor, A-Joshi Strategy Consultants Pvt Ltd, Mumbai, India
This article analyses the possible implications of Brexit in the short-term on an emerging market economy like India. Brexit will make an impact on a) Economics b) Politics, in the short-term and in the long-term.
Given below are the two graphs. One shows how global trade has declined significantly in the recent past (nominal value terms). The other shows the weak growth in global trade (by volume), compared to global GDP growth. These graphs throw up points to ponder over.
Graph 1: World Trade Growth (% in volume per annum*)
Graph 2: World Trade : Nominal and Real Indices (2005=100)
The intensity of global trade seems to be coming down steadily. Countries appear to be turning inward. Globalization was not at its peak at the start of the decade anyway, so this development has significant implications. Concurrently, the flow of information and people are increasing, raising the prospect that slowdown in trade may be for a short period only. As seen in the first graph, volume growth is lagging behind global GDP growth, which is itself trending downward. Among major economies, India is a notable exception in this regard. Even worse, there is a view that the GDP of USA is growing ahead of potential, and therefore is likely to trend down further. Global trade is more correlated with change in global investment (FDI) than with GDP growth. However, non-energy related trade is decreasing, suggesting that related investments are trending down. Except India, no major nation is seeing continuing growth of cross-border inward investments.
The slow-down could be a prolonged spell lasting a few years, perhaps 4-5 years. There are schools of thought that future average long-term global growth could be 33% lower than over similar periods in the past. Despite computerization, growth in Factor Productivity has not been keeping pace for a long time, thereby not helping to compensate for the other drivers which are contributing to the slowdowns. Adding to the challenges, if the US economy follows its cycles, it is due for a recession by 2017. For some time there will be confusion and uncertainty, which itself affects economies in the short-term. Global growth, already weak, will be affected adversely. The gap between growth rates in the "developed" and "developing world" is narrowing, so developing countries have to strive harder to bridge the gap.
Brexit, if it actually comes to pass, compounds an already difficult emerging scenario. UK and EU have a palette of about four to five models to choose from for their future relationship. Based on the model finally selected, the UK may need to negotiate more than 100 agreements with the continent, which could take several years. The UK and to a lesser extent EU will actively seek to streamline and boost trade with India given its size, diversity and growth rate. India does not have an FTA with EU, so the evolution can take the Brexit situation into account.
India has a significantly more stable macroeconomic situation compared to most emerging market countries, and also relatively limited exposure to the global economy. There will be a transient impact on the Indian economy and an even more transient impact on the stock markets. India cannot rely on the significant growth of exports in the near future. Therefore, the focus needs to be on value-add in exports, and not on top-line. Hence progressing on the remaining two pillars of growth becomes essential, viz. Domestic Consumption & Investment.
The sectors dependent on revenues from Europe will be impacted more. These are the usual ones: IT, Auto, Metals, maybe Textiles. Pharma may not be impacted much given the nature of the products. Except Textiles, all others may continue to be worth considering for long-term investments. On the other hand, commodities and crude oil will see downward pressure on prices. The U.S. Federal Reserve will pause further interest rate hikes, further softening the potential overall impact on the Indian economy.
The currency (INR) will likely fall against the USD in the current financial year (1 USD = 68INR?). INR is overvalued currently as per the REER, and that may not change as almost all currencies will fall, many much more than the INR. The current situation of overvaluation of the INR will continue. Gold is likely to continue to be on a rising trend for some time. The Indian government may need to revisit taxation on the import of gold to curb imports. Central banks globally will continue with easy monetary policies.
Stock market multiples for India are already high. Both multiples and earnings will come under some limited pressure. Hence upside on stock market investments is likely to be limited. FIIs will tend to pull back from EMs, but will come back to India eventually. A defensive approach is warranted, and the time may not be opportune to make short-term investments unless one is an experienced speculator. There is a good possibility that interest rates in India come down further, so locking in rates through term deposits can be considered for those so inclined. If yields then come down, bond prices will increase so balanced funds are also a reasonable prospect.
For India, Brexit is likely to be a speed-bump unless there is a rapid domino effect (Grexit, Nexit, Frexit etc), the rapidity of which is highly unlikely. In the long-term India will be affected only to the extent global growth is affected. India remains a good long-term story, with success much more dependent on internal dynamics & stability.
As the governor of the RBI Dr. Rajan has said, monetary policies of Central Banks globally can only do so much. The fiscal side needs to start contributing. For this, politicians need to take charge of building the economy. India is an exception among major economies in this respect. However, though it is the 3rd largest contributor to global growth in absolute terms, its inward focus reduces global impact.
Technology will, finally, come out of its lost decade & make significant contributions to growth in a few years, cutting short an otherwise long anemic period. Relatively this will help the West compared to India. China is doing a better job in upgrading itself in this respect, even willing to risk job losses in some areas with the migration away from industries to rural areas. However, China has long-term issues connected with this. Business managers need to reconcile themselves to the fact that high volatility & uncertainty is a new normal, for quite some time in future. The trend-uncertainty balance will continue to shift towards uncertainty.
The Liberalism school of international relations believes that tighter integration like trade & institutions minimizes chances of conflict. The Realism school believes that Structure matters more, and evidence either way is not definitive. Since politics drives economics, the trend is not favorable. The political consequences of Brexit for the world are more potentially more serious than the economic consequences (& long-term), but that would be a different analysis
Finally, it is useful to keep in mind three long-term mega trends and their potential implications:
a) Slow & inexorable breakdown of the collective in Europe
b) Increasing geopolitical issues in Asia
c) Breakdown of Westphalian nation-state system in the middle-east.
About the Author:
Vivek N. Joshi is an Advisor to A-Joshi Strategy Consultants Pvt Ltd based at Mumbai, India. He has international experience in various sectors and is an expert in Strategy, Innovation, and Venture Capital. Vivek has several publications and is an invited speaker on Strategy, 21st Century Challenges, and Management. He has a Bachelor’s Degree in Engineering, an MBA from India, and a Master’s Degree in Engineering from the USA.
Cite this Article:
Joshi, V "B&E | Brexit : Implications for India?" IndraStra Global Vol: 002, Issue No: 06 (2016), 0052, http://www.indrastra.com/2016/06/BE-Brexit-Implications-for-India-002-06-2016-0052.html, ISSN 2381-3652