Modi Mania

The inauguration of India’s 15th Prime Minister, Narendra Modi, since British independence, early this week was a momentous occasion.  Guests and high level dignitaries from across South East Asia attended the ceremony to show their respect for Modi as he took the oath of office, swearing to uphold the nation’s constitution with dedication and diligence. Security throughout the entire affair, which was held at the Colonial-era presidential mansion in New Delhi, was unprecedented.

Modi, enters office with a landslide victory and also high expectations from the Indian electorate. Indeed, Modi’s newly elected government will need to hit the ground running.

On social issues despite India’s rapid growth over the past two decades, that elusive trickledown effect has not yet materialized; India remains near the bottom of the nutrition and literacy league. Moreover, the lack of jobs for young people entering the work force is another pressing problem for the government to tackle.

On the economic front there are also a number of challenges that lie ahead. Inflation remains stubbornly high 8.59 per cent in April 2014 with food and beverage price accelerating to an annual 9.66 per cent in April. Monetary tightening by India’s Central Bank, in other words raising interest rates,  is likely to be a delicate balancing between dampen price rises, but simultaneously not choking off business investment, consumption and economic growth.  Getting it right can be tricky. Speaking to journalist in Deli, India’s new Finance Minister Arun Jaitley, a supreme court lawyer and strategist for the governing BJP party said, “The balancing act will have to be done,” said Jaitley  in response to a question about how he intends to tackle inflation. “I will wait a few days before announcing the government’s program.”    

  

Additionally, reenergizing capital investments into infrastructure projects will also be a critical issue for Modi’s government to resolve.  The chronic underfunding of large infrastructure projects due to a lack of capital investment, which accounts for 35 percent of economic activity in India barely grew since the previous fiscal year that ended in March. The issue of capital investments is likely to touch on the thorny issue of alleged irregularities (corruption) of the previous administration in awarding public infrastructure projects.

Bolstering capital inflow into India is most likely going to be also on Modi’s list of things to do. India’s sovereign debt rating has been downgraded to a "BBB-minus", by the credit rating agency Standard & Poor, which has a negative outlook on the nation’s sovereign debt. What this implies is that India currently has an adequate capacity to meet its financial commitments, however, adverse economic conditions or changing circumstances could have an adverse impact leading to a weakened capacity on India to meets its financial obligations..   

So investors are eagerly waiting to see what Modi’s new government proposes to do in order to continuing meeting its financial commitments.  Reducing the budget deficit would be perceived as a step in the right direction, for investors.  Modi has a target of reducing the deficit below 4.8 percent of Gross Domestic Product (GDP). India’s deficit was 5.3 percent of GDP in 2012-13 (estimated figure).  But reducing the deficit results in fiscal leakages from the economy and the outcome of this reduced public spending is lower employment and possibly a fall in GDP.  Pedaling austerity to voters who are eager to see job creation will not be an easy sell for Modi’s administration.  Young job seekers make up 49 percent of the unemployment statistics, according to a recent study.

With respect to India’s burgeoning energy needs, the country is tipped to overtake China in 2020s as the principle source of growth in global energy demand and by 2025 India will be the world’s largest coal exporter, according to the International Energy Agency's latest World Energy Outlook.  Modi’s goal is for every Indian citizen to have access to a house with water and electricity by 2025.  Thus, Modi’s energy policy or foreign policy is likely to be not to put his eggs in one basket, which means strengthening diplomatic relations with the main energy suppliers, China, Russia and the USA.

It maybe still too early days to gauge what impact Modi’s new government will have on the true economic direction of the country. On the upside it appears that Modi has been true to his electoral motto of, “minimum government and maximum governance,” Modi’s Cabinet of Ministers has been streamlined.  All the sound bites from the newly elected government seem impressive; make the government more efficiency, energize growth, creating millions of jobs and spreading prosperity. However, little is understood about what is their strategic plan is to achieve these objectives, so far on this point the Modi government has been mute.

Admittedly, if all the stars could align, If Modi could get inflation under control, increase capital investment and net inflow of foreign capital, tackle corruption, make the administration more functional and get the youth in work, and then the opportunities could be tremendous. Consequently it is no surprise that the markets have been euphoric about Modi’s election victory.

 

But perhaps the outcome is not entirely in Modi’s hands, it may not even be within India’s sovereign boarders. It maybe thousands of miles away, within the central banking system of the USA, the Federal Reserve. If the Fed withdraws from its bond buying stimulus policy (tapering) the India Rupee falls, which would have an adverse effect on Indian Inflation, investments etc. So Modi may have an uphill struggle on his hands with the Fed winding down its monetary stimulus program, of billions of USD bond buying.

Volatile time may be ahead for the India markets.  Both the rupee and the S&P BSE SENSEX (India’s stock exchange index are down on the week, with the latter down 1.31 percent as I write this piece.  

Darren Winters