How Recession in the USA will affect Banking Sector in India

By Ms. Ruma Koley

“The financial crisis and the Great Recession posed the most significant macroeconomic challenges for the United States in a half century, leaving behind high unemployment and below target inflation and calling for highly accommodative monetary policies.”

Jerome Powell

Asignificant, prolonged, and widespread downturn in economic activity is called a recession. Although recessions may last for a small period, like a few months, the economy may not recover to its former peak for years. It is measured by economists at the NBER (National Bureau of Economic Research) with the help of nonfarm payrolls, retail sales, and industrial production, among other indicators, going far beyond the simpler two-thirds of negative GDP measures.

History of Recession in the USA and its Effect on the Banking Sector:

In the USA, there have been as many as 48 recessions dating back to the Articles of Confederation. Between 1945 and 2001, the average duration of the 11 recessions was 10 months; between 1919 and 1945, it was 18 months; and from 1854 to 1919, it was 22 months. No post-World War II era had come anywhere near the depth of the Great Depression before the COVID-19 recession began in March 2020, which lasted from 1929 to 1941 because of the 1929 stock market crash and other factors. The banking sector was affected again and again due to those recessions. After the Bank War in 1836, the Second Bank lost its charter, and until 1862, there was no national presence in banking. At the time, there was neither a central bank nor deposit insurance. During this time, definitions were contested, and unemployment and GDP were not collected, according to modern economic statistics. After the COVID-19 recession, all countries are trying to overcome that terrible situation. But the current scenario has changed while showing the data of the US economy, which is already slowing, and by companies warning about the impact of inflation and supply chain problems on their operations. For this reason, Wall Street worries that the rate hikes could go too far in slowing economic growth and pushing the economy into a recession. Not only in the USA but also in Britain, economic contraction was evident. Even China and the Eurozone are still not out of the pandemic. China is weighted down by successive lockdowns in its large cities. Both China and the USA are currently running a slowdown. So, we can say that when two of the biggest economies in the world face such a situation, the fears of a recession are valid. and it will affect developing countries like India.

Current Situation:

India’s current position:

As per India’s report, at the end of June 2022, GDP (gross domestic product) will have jumped 13.5%, which is 2.7% points lower than the RBI (Reserve Bank of India) projected. GDP rises but stays below estimates. The Reserve Bank of India had projected a growth rate of 16%.

There was some expectation of a more significant amount back from the first 6 months of the last year when the delta wave of Covid-19 came and the economy was crippled by that. Therefore, the GDP numbers came out as a disappointment for most.

But, analysing the graph, we can see that last year, India’s GDP showed a massive jump to 20.1%. It’s showing the fastest growth in a year.

But somehow, we can see a slowdown in the pace of growth momentum, which shows GDP decelerating further in the quarter to come.

Potential Impact in India on the US Recession:

I. Merchandise exports can fail:

As we know the US is one of India’s major trading partners and its share market in India’s merchandise exports was at 18.1% in the financial year 2022. As a result, Software exports can be the worst hit in India.

II.Interest

Rate

trajectory: According to the record and the Nirmal Bang report showed that due to the recession, there has a maximum possibility of a slowdown of growth in every sector as well as the banking sector which affects Interest rate hikes also.

GDP growth may slow: RBI and the Fed:

India is not immune to a US recession, and domestic growth, which slowed by approximately 1.5% to 2.5% even in normal Fed-led recessions, is suggested in a report by the Securities and Exchange Commission. According to the paper, "In our base case, we believe that GDP growth will be 5% in the fiscal year 2023, assuming a mild US recession," and growth could even slow down to 6% in the financial year 2024 (revised down from 7% earlier)”. For example, if we look at Point 021, it suggests that even a shallow, short recession in the US has the potential to bring down GDP.

According to the report, India’s rate-hike cycle has never gone in the opposite direction to that of the Fed. There were extended pauses in the 1970s and 1980s when the Fed raised and cut rates.As well as in the early 1990s, the RBI maintained a pause. But in the 1990s, the RBI, the Fed, and even the Fed itself remained on pause. In conclusion, we can say that, as per the report, the worst of the FPI outflows from Indian equities may be largely over; therefore, FPI flows are likely to resume gradually, which may limit the depression pressure on the rupee.