Since the time recession hit the shores of America and it repercussions spread across the globe, there has been a sudden drop in the Short Term Interest rates level to almost zero and large scale asset purchase became the survival plot for the mature economies.
Buying in long term bonds and Mortgage Backed Securities every month has boosted in the reserves for the banks in the industrial economies. This boost then was pushed to reap in on the interest rate gaps of the Emerging economies and the other investment opportunities which seemed attractive for large fund houses and banks. This formed the backdrop of Hot Money which poured in India aggressively. Our major indices touched all-time highs every day and gave great returns in first quarter of 2014 calendar year.
First half of 2013 calendar year was a nightmare for a country like India. Reeling with huge Current and Fiscal Deficits, rapid depreciation of the currency and depleting exports all made worse for the government and the central bank. Pushing them hard to take some serious steps before our sovereign rating gets a beating and investors’ confidence further dwindles. Few but important policy measures brought back the situation in control. And the investors’ confidence further got a boost. INR appreciated deficits under control and Forex reserve has ballooned.
In May, 2013 when the Fed hinted about their plan to reduce the asset purchases, the markets reacted aggressively, leading the Fed to clarify and pacify the situation. But the reality is it has to stop one day. And with successive reduction the complete pause in purchases of long term assets by Fed is not far away. How will the markets react? How will India handle such a situation? Will the new government put things in place before the fundamental scenario becomes unsustainable again?
Presently, the influx of external funds in indices, debt market and other assets of our country is led by factors not controlled by the domestic economy, i.e. spillovers of quantitative easing. There has been no major policy reform undertaken for the investors to believe in the long run story of India. The new government will take its position at a very critical stage of the year. When on one side USA’s economy is improving and Fed is reducing the asset purchase and on other side the overall global economy is coming back on track, luring the investors to invest for long in India need some serious policy changes.
If the new government fails to take some rapid actions and investors’ can't associate with the Indian story then the repercussions would be unimaginable. More than relying on external spillovers, it’s time for the economy to introspect and make necessary domestic policy changes to enjoy the perennial external investors’ trust and grow our domestic markets too.