One year on: Modi, reforms and markets

May 25, 2015

(Any opinions expressed here are those of the author and not necessarily those of Thomson Reuters)

Prime Minister Narendra Modi completes one year in office amid hopes from markets and investors that he will push the pedal harder on reforms.

The government is on course to deliver on structural reforms, although the impact on the ground will only show over the medium term. It has managed to improve cyclical parameters like growth and inflation, but corporate earnings continue to be weak and investment is yet to pick up.

An analysis of the earnings season shows that there is a marked slowdown in the rural economy, which is responsible for roughly 40 percent of demand in the country.

The farm sector is going through a crisis due to multiple factors, one of them being damage to winter crops as a result of unseasonal rainfall. Much will depend on the kharif (summer) sowing season, which is dependent on the southwest monsoon.

Another area of concern is the flow of investments into the country. In January, FIIs poured $5.2 billion into India’s markets. The figure was $3.9 billion in February, which decreased to $3.25 billion in March, $2.39 billion in April, and $2.3 billion in May so far.

The gradual fall in FII investments can be attributed to many factors – the retrospective tax issue, upcoming Chinese IPOs worth some $500 billion, rising oil prices, etc. However, if the government continues to steadily usher in reforms, India would continue to attract investments from abroad.

On the global front, U.S. Federal Reserve Chair Janet Yellen indicated that the Fed was poised to raise rates this year, but this should not be a cause for concern. The U.S. has had a six-and-a-half-year stretch of near-zero interest rates, and it would take a considerable time to gradually raise them. Also, if India continues with its good work on reforms, strong outflows are not anticipated once the U.S. starts tightening.

Back home, slowing inflation and industrial output have raised hopes of a rate cut by the RBI at its bi-monthly policy review on June 2.

The central bank has for long asked the government to be earnest on reforms. It is now time the RBI supported the government’s efforts by reducing interest rates.

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