The Global CIO Office Weekly Wednesday, 29 May 2019
Narendra Modi - from Chai Walla to Chowkidar to…Banaane Walla?
BJP’s emphatic victory in the Indian general election sets the stage for some expansive policies Narendra Modi needs to elevate his role to that of Banaane Walla – a creator – a creator of jobs Financial markets have been surprised at the scale of the win and should have scope for further upside The first 100 days of a new government should see the role our of pro-growth policies and reform Foreign investor interest plus a likely resurgence of domestic demand should support both equities and bonds.
Narendra Modi’s elevation from the tea maker to security guard now begs the question what next. India needs Modi, Banaane Walla, the creator, the creator of jobs. The BJP’s emphatic win in the Indian general election now gives Modi the mandate to elevate himself to a role of even higher standing. There will be no more excuses, the BJP with Narendra Modi at its helm must create jobs. To create jobs, we expect the government to run with pro-growth policies to stimulate internal demand. These are likely to be combined with an ongoing reform on many fronts. Financial markets should take heart from pro-growth policies that are likely to be wrapped in easy monetary conditions. The market expects the Reserve Bank of India to cut their policy rates as early as June together with a probable easing of bank’s reserve ratios. We expect equities and potentially bond markets to make good progress. The challenge of job creation is very stark. Of India’s 1.3 billion people, half the population is under the age of 27, and 1.3 million young people reach working age every month. Such a challenge cannot be met with growth alone. The prospective labour force also has to be fit for purpose. A recent article in Foreign Policy remarked “according to a study by Aspiring Minds, an Indian talent assessment firm, more than 80 percent of Indian engineers are unemployable in the knowledge economy. A study by the Associated Chambers of Commerce and Industry of India found that only 7 percent of India’s business school graduates were employable”. What can investors expect next? As in 2014 PM, Modi is expected to kick start his new government with a 100-day program of stimulating growth and driving new policy initiatives. Investors should expect some simplification of the GST tax bands, reducing the number to two from four. The new government is thought to be considering promoting growth by extending an announced cut in income taxes, inside a reform of the 50-year-old Income Tax act. In terms of industrial policy, the country will be trying to take advantage of China’s trade war with the United States. In particular, Prime Minister Modi is understood to have formulated a plan for the rapid growth of software products to increase the software product market ten-fold over the next six years. We can expect to see further efforts to privatise businesses and for the state to withdraw from several industries. Already announced is the potential 100% sale of Air India. Reform of the financial sector remains perhaps the most crucial factor for a stimulus to long term growth but the most difficult for the government to achieve. State-owned banks remain well over 50% of all deposits and loans. The
burden of bad debts still weighs heavily on the majority of the state-owned banks. Without the oil of a fully functioning financial system, India will be unlikely to achieve its full potential. In the meantime, the market will be hoping that cuts in interest rates and the reserve ratio will provide a sufficient stimulus. Narendra Modi’s first term of office was a success when measured by how much the Indian financial markets rallied. From May 2014 to the end of the first quarter 2019 Indian equities (measured by the large-cap Nifty Index) rose 78% or 57% in US dollar terms compared to 28% for global equity markets. We see good reasons why the equity market may push higher in the coming months. Central bank easing will undoubtedly help. The RBI’s scope to cut is certainly helped by the recent drop in the oil price and the general malaise in the global economy. Corporate earnings are better with the majority of the Nifty stocks having produced results ion line or better than expected in the recent results season. Foreign buying of equities has already been strong, but with few other hot spots at the moment, particularly in the emerging markets, Indian could see further strong inflows of capital. Global funds have bought around $8 billion in value of Indian equities so far this year, the highest among major Asian markets. Chart 1: Under Modi, Indian equities significantly outperform the Global equity markets 180 170 160 150 140 130 120 110 100 90 80 19 19 18 18 18 18 18 17 17 17 17 17 17 16 16 16 16 16 15 15 15 15 15 15 14 14 14 14 14 20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 / 27 18 13 /6 /2 25 16 12 /5 31 24 17 10 /3 30 23 18 10 /4 29 23 18 11 /5 29 22 17 10 /4 3/ 1/ 11/ 9 7 4/ 2/ 12/ 10 7/ 5/ 3/ 1/ 11 8/ 6/ 4/ 2/ 12 9/ 7/ 5/ 3/ 1 10/ 8/ 6/ 4/ 2 Source: Bloomberg
Less striking was the rally in the government bond market where yields are still trapped above 7%. Cuts in policy rates may provide some stimulus for lower yields if there is a consistent improvement in the outlook for inflation. The impact of higher energy prices and the implementation of GST all added momentum to inflation at various stages of the last government’s term. The recent drop in the oil price will certainly help. Foreign investors to date have been less convinced of the merits of Indian debt having sold a net $1.3bn of sovereign and corporate debt in the year-todate.
Chart 2: Indian generic 5-year government bond yield has struggled to break 7% consistently 9.50 9.00 8.50 8.00 7.50 7.00 6.50 6.00 5.50 5.00 19 19 18 18 18 18 18 18 17 17 17 17 17 16 16 16 16 16 15 15 15 15 15 15 14 14 14 14 14 20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 /20 / 22 12 20 11 /1 30 21 11 /7 31 23 19 /7 /2 26 19 16 /2 28 16 10 /8 27 19 14 /2 25 17 /4 5/ 3/ 12/ 10/ 8 5/ 3/ 1/ 11 8/ 6/ 4/ 2 12 9/ 7/ 5/ 3 12/ 10/ 8/ 6 3/ 1/ 11/ 9 6/ 4/ 2 Source: Bloomberg
Gary Dugan Bill O’Neill (consultant)
[1] World Bank (September 2016) By 2050, drug-resistant infections could cause global economic damage on par with 2008 financial crisis. Available online at: http://www.worldbank.org/en/news/pressrelease/2016/09/18/by-2050-drug-resistant-infections-could-cause-global-economic-damage-on-par-with-2008-financial-crisis
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