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June 29, 2018

Indian Economy: Of shocks and vulnerabilities

While the Indian economy is recovering from the twin shocks of demonetizationand Goods and Services Tax implementation, exogenous temblors have startedto manifest. More recently, some of the key macros – current account deficit(CAD), inflation, fiscal deficit and bond yields – have been stressed. Over the pastfew months, capital flows into emerging markets have tapered and, in somecases, even seen outflows – India has seen outflows both in debt and equity.External shocks such as rising oil prices, tightening by the United States FederalReserve, and geopolitical uncertainties – coupled with weakening of some of thedomestic macroeconomic indicators – are driving this trend.


Although oil is the dominant risk at this juncture, asymmetric monetary policiesin advanced countries and noticeable tilt towards protectionist trade policies arepotential global shocks lurking. All these create a ‘risk off’ scenario.


So, are we heading towards a 2013-like situation when the 'taper tantrum' wasenough to roil the rupee? Unlikely, because India is way too resilient today thanthen, despite some of the macroeconomic parameters worsening.


Received wisdom says although all emerging markets are impacted by the ‘riskoff’ scenario, the ones with poor macroeconomic fundamentals get hit the most.In 2013, with its high twin deficits, India was part of the ignominious ‘Fragile Five’(Turkey, Brazil, India, South Africa and Indonesia) and was hit by capital outflowsfollowing the announcement by the Fed that it is likely to cull asset purchases.


With a significant improvement in its macroeconomic parameters since fiscal2015 and foreign exchange reserves at $412 billion, India is today outside thegroup. Eight out of 11 emerging market currencies analyzed have depreciatedagainst the dollar this year. The rupee has been the fifth-worst performingcurrency.


Net-net, while risks have risen, India looks better prepared compared with bothits own past and other emerging markets.