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COVID Economics | Part 1
The Timekeeper - Flashing Lights
“It’s Nobody’s fault what they are born with”
- In Time
The Debt/GDP Quandary
The sovereign debt to GDP ratio of India (pre-stimulus) as of 2019 stood at ~70% and rated at BBB- (the last time the country was rated junk was in 2006-07).
The Indian Government announced a stimulus package of INR20trn (~US$266bn), on 13th May 2020. Its being projected as ~10% of the GDP of India
The package is expected to push the Debt/GDP ratio towards 80%-85%, that too subject to certain conditions, such as:
Sustainable growth in nominal GDP pursued by the government.
Such growth balanced by maintaining fiscal deficit at the State and Center levels.
A Three Pronged Strategy & an Old War Horse
The combination of policy initiatives announced so far comprises of three prongs – fiscal, monetary and financial.
Of this, the Reserve Bank of India (RBI) has been the largest provider of liquidity for the stimulus initiative (~INR8trn in two tranches announced on 27th March and 20th April), which is in-line with global central bank action that’s been initiated since last year in light of slowing economic growth forecasts.(WEF in April 2020 released its forecast for economic outlook and estimates a US$9trn loss to global GDP in 2020 and 2021 and a 3% contraction in global growth for 2020)
The key question from most analysts and commentators on the recently announced measures is this –
Who pays for it and does it solve the problem?
The expansionary fiscal policy would usually look at reducing taxation (which isn’t a solution currently for a government already reeling from overspending its annual budget) or initiatives to grow at the grassroots. (Packages 1,2 and 3 have been alluding to MSME’s, migrant laborers, agriculture and farmers)
Therefore the potential onus and impetus for being the driver of this stimulus package once again falls on the RBI, which has grown a bit concerned about how impactful monetary policy measures could be to address growth concerns in the economy.
Considering the announcements on moratorium and interest waiver (in the initial weeks of the lock-down), TLTRO operations and their lukewarm response in April 2020, an unwillingness of banks and NBFCs to lend further, owing to COVID-19, and rising provisioning for bad loans in subsequent quarters, there maybe a potential drive for asset purchases in the coming weeks. (similar to the US Federal Reserve in its US$2.0trn economic package in March 2020 and Germany’s recent Pandemic Emergency Purchase Program)
The stock market sensed the above bottlenecks soon enough. It realized the challenges in terms of liquidity actually reaching the relevant market participants in India’s manufacturing and services economy.
The initial market euphoria witnessed in the wee hours of the next trading day of the govt announcement, has subsequently moderated.
Investor gaze has since shifted towards the more telling data from lagging economic indicators such as —
59% drop in month on month exports/imports for April 2020.
Elevated unemployment rates @ 24% in the week of 10th May.
Record low PMI data for manufacturing(27.4) and services(5.4) sectors.
A record rise in number of job losses in April 2020 @ 121.5 million.
Fighting The Virus
Currently there are close to 550 districts in India with COVID-19 confirmed cases. This accounts for almost 86% of India’s GDP.
This has further stalled attempts by Corporate India to end the “work-from-home” normal.
The country’s healthcare infrastructure statistics do not merit an immediate return to the workplace either – lack of requisite hospital beds (0.7 per 1000), greater out of pocket expenditure as a percentage of healthcare expenditure (62%) and comparatively lesser testing rates per-capita (currently 100,000 in a population of 1.3 billion) vs. European countries.
To put things in perspective, India would need to test 200,000 people a day in order to potentially assess the probability of ending the lock-down (subject to having higher accuracy on testing kits which has been a concern in itself)
Live in the moment; Borrow from the future
Famed American billionaire, Stanley Druckenmiller, has often criticized the US Federal Reserve’s action on quantitative easing as “short-sighted” and “borrowing from the future”. With such measures The Fed has ensured that the S&P 500 has continued to grow and has become the outperforming asset class of the last decade.
(Its interesting to note that the S&P 500 is considered as the barometer of US economic prosperity and investment inspiration.)
With easy monetary policy and deficit spending remaining unchecked, the US consumer debt level may reach unsustainable levels which will be borne by future generations.
In fact, a similar view is also echoed by Jeffrey Gundlach of Doubleline Capital, who has flagged risks owing to nominal GDP growth in the United States being substantially lower than rise in national debt. With predominant contributions being from government debt, mortgage debt and consumer debt and a potential contraction in GDP if it had not been for these borrowings.
The Global Credit Card
Adding to this rhetoric, Paul Tudor Jones in his Macro Outlook for May 2020 has indicated that US$3.9trn (6.6% of global GDP) has been created in 2 months globally owing to quantitative easing. And the US government Debt to GDP has reached historic levels, last seen during World War II.
In layman’s terms, the global credit card machine is working overtime in order to finance economic activities. This should ideally address the short-term contractions expected in the next 2-3 years.
With global debt to GDP ratio at a whopping 322%, it is only a matter of time before the Indian economy may also be forced into looking at a situation of expanding its balance sheet in order to address short term economic malaise (as the indicators have flashed bright red).
Pre COVID, the dependency ratio (ratio of those outside the working age (young and old) divided by the working age) was forecast to be in the low 50% by 2030.
Add to this a powder-keg mix of benign interest rates (another 75bps rate cut is forecast by March 2021), the aforementioned stimulus package setting in motion a trend of growing fiscal deficit and India’s rising household debt to GDP, its time we asked ourselves a simple question --
Will we borrow from our future?
(To Be Continued)
The author is a Senior Associate, Fund Management with Logos Group, based out of Mumbai. He enjoys reading, writing, watching sports and rambling on about financial markets and economic issues. His love for finance is matched only by his love for fantasy fiction.
In fact, this post is his secret attempt to make you watch the movie - In Time.
Say hi to him on his LinkedIn page - Rahul Ramesh
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(The article is the first of a three-part series on looking past the rhetoric, noise and opinions expressed regarding the COVID-19 pandemic in the year 2020 and focuses solely on datapoints that can provide a latticework of fundamental metrics that can help shape views on potential outcomes for the global as well as Indian economy. The attempt is to view the situation based on objective representation of available data and posit arguments on the potential economic and more importantly social impacts of the COVID-19 pandemic. Views expressed in these articles are strictly personal.)
1 Credit Suisse India Market Strategy, May 2020 (Part 1 of the economic package: Rs13tn done, Rs7tn yet to come)
2 Jefferies Strategy, 12 May 2020 (Govt Package – Scale is Impressive)