Indian Economy More Resilient

The markets are concerned about the negative impact on India’s economy if the US is thrown into a severe recession, but for now that remains an “if”. The RBI is focusing on a domestic economy that still has strong growth momentum and rising inflation risks.

India’s growth is set to moderate in 2008. US will avoid a full blown recession but is likely to witness an extended period of lackluster growth. This is likely to hurt India’s exports, most notably exports of services, of which about 60% depend on US demand.Expect the Indian GDP to soften a little bit to 8.5% in 2008 and will be only second to China. India stands to be the best to attract capital inflows. [FDI as well as stocks].

If the US Fed cuts rates by a further 100bp to 2.00% by June and successfully averts a major recession, we expect India to attract massive capital inflows, leading to heavy Forex intervention by the RBI to avoid excessive rupee appreciation. However, if the US were to slip into recession, things would be different – India’s growth is likely to soften to 7%. In past US recessions, a 1pp drop in US GDP shaved 0.1-0.3pp off India’s GDP. The impact could be larger this time due to increased integration.

Finally, 2008 being a pre-election year, it is likely to be aam-aadmi’s budget. The government will also be hesitant to take major policy decisions, evident from the de-sealing drive in Delhi which had started a year ago. With Inputs from Lehman Brothers and Credit Suisse.