Last year was undoubtedly a turbulent time for emerging markets with political instability, inflation and the fledgling recovery in the west all causing significant headwinds.
Unsurprisingly, this has led to scepticism from some commentators about prospects for these markets, including India. However, the Indian economy is showing signs it will weather challenges of the next few years. While this may not be an easy task, as recent reaction to the Fed’s announcement showed, India has the political will to make the necessary reforms to deliver on its potential.
The Federal Reserve’s decision to start tapering its asset purchasing has caused some fallout in emerging markets although the expectation is that this will tail off in time. Given its domestically driven economy, India is in a better position than most to deal with the post-QE world.
Without the so called ‘taper tantrum’, investors in India might have focused more on the positives in 2013, however given the overall improvements in the economy and the political outlook the India story will be difficult to ignore in 2014.
One of the significant changes in recent months has been the appointment of Professor Rajan as governor of the Reserve Bank of India (RBI). He is clearly part of a dying breed of central banker: One who actually knows how the world works.
He will make mistakes, but the important thing is that he will be trying to move India in the right direction as shown by his decision to hike interest rates at the end of January. Bond markets have reacted very well to this.
Politically, the BJP party looks to be gaining good momentum going into the May election. In conjunction with the appointment of Professor Rajan as RBI governor, a BJP led government would be very encouraging in terms of getting the reform agenda back on track. There is also a lot of positive data currently coming out the RBI.
Recent results showed that the current account deficit (CAD) narrowed significantly to $5.2bn (£3.1bn) in Q2 2013 from $21bn in Q2 2012. Additionally, inflows to the bank have increased to $34bn which is higher than anticipated. This gives the additional firepower to intervene in the markets, if needed, to counteract currency volatility.
The fall in gold imports was a major contributing factor to this reduction as was currency depreciation. India’s exports have become more competitively priced over the last few months leading to higher exports in textiles, chemicals and leather goods. It is expected the CAD will remain at roughly 3 per cent of GDP for the next financial year as gold imports stay low and exports increase.
There has also been an improvement in how other countries perceive India. Net Foreign Direct Investment (FDI) is stable in spite of some negative sentiment driven by outflows from the bond markets and banks in July and August 2013.
As with any emerging market economy, the next few years will present challenges as well as opportunities and any investor will have to be comfortable with this. However, India is committed to making the reforms it needs to improve its future. The country has much better potential for growth than any developed country.