Markets over the globe are currently witnessing turmoil in their positions. Indian markets have washed away the gains of the year 2015 already. US on the other hand is looking range-bound. Japan is still struggling to have a consistent growth path. Chinese stocks trembled almost 25% from its peak in 3 months time, although they are currently at double the levels of what they were a year ago. Almost each Asian country is facing the distress. In this blog, we are looking at what caused the Shanghai Index fiasco which forced China to devalue their currency. We will be focusing on ‘ In what ways India would be affected’ as well.
The decelerating Chinese growth rate has been the hot topic lately. What was happening in China internally that caused the fiasco? China, post 2008 sub prime crisis, was the fastest growing country among the emerging markets till the end of 2014. Chinese markets witnessed their index doubling. So what happened that caused the slowdown?GDP started reducing from 11.9% to 7% by 2014. China, to boost its growth in the past 5 years, had been implementing some fundamentally dangerous decisions that it made. There was reckless credit disburse in the economy to boost the credit growth. They missed out the possibility that the investments in the country might dry out. China was first hit majorly by the fear of Grexit in the early 2015. Since emerging markets were starting to look vulnerable, the foreign investors started pulling out the funds to invest into safe havens such as the US treasuries . This caused the Shanghai index to tank as much as 13% in a couple of days. The Chinese central bank then thought that may be they should try inducing some growth measures and turn the sentiment around. To be precise, they wanted to continue the bull run without letting the markets correct, which is also known as synthetic bullish market in technical terms or a bubble. People’s Bank of China thus decided to reduced their interest rates and also their reserve ratios. It led to excess liquidity with the banks. The credit growth had already reached its saturation point. Later, the PBOC ( People’s Bank of China) decided to allow this additional credit to the individuals against a collateral to invest into markets to keep the buying spree intact. The above steps did make a slight difference in the stance, but the overall sentiment was still negative.
Just when the markets were consolidating, China’s securities regulator announced a series a IPOs. This led to a sell off in the secondary markets, since the investors wanted to accumulate funds to subscribe heavily for the IPOs. It led to a selling pressure in the markets and thus causing it to fall further. China’s securities regulator banned the shareholders with large stakes in listed firms from selling for 6 months time-frame to stop the fall. Investors who were given margins loans started defaulting due to the heavy losses in the equity markets. Chinese regulator then finally had to cancel all the pending IPOs after another 8% fall in the Shanghai Index which was one of the biggest 1 day loss in the past 8 years.
Despite the unconventional measures taken by China, they could not stop the sentiment driven fall. It was a clear indication that the fundamentals of the country are under stress and the economy is showing signs of weakness. The PBOC hence decided to devalue its currency in the wake of weak economic data. It is also suspected that China might look to devalue yuan if slowdown persists. Chinese yuan is pegged with USD based on a daily reference rate. When yuan was devalued, the USD appreciated against the yuan thus causing the rupee to slide from 63/$ to 65.8 Rs/$. Rupee, which was the most stable currency of the year 2014, started to look vulnerable and it was clear that it might have a serious impact on the macro economic indicators.
India will be affected on various fronts because of the sudden yuan devaluation. Depreciating rupee will trigger the high import costs, predominantly of crude oil and gold. But thanks to the falling crude prices, it will keep our import burdens in control provided rupee does not slip further. On the other hand, the exports will be benefited since they will be competitive. But a recently published data indicated that the export growth has been at the sluggish levels of 3%. Overall looking at the situation, we might see our fiscal deficit and current account deficit widening despite competitive exports, but the growth prospects will be intact provided the reforms are rolled out in time.
Despite the currency crisis, I would still say India is better off compared to any other emerging economy. The Russian Ruble, South African Rand, the Indonesian Rupiah have all depreciated to the extent of 15-20% against the USD in this yuan devaluation move, while the Indian rupee has depreciated by 2% so far. Although, Rupee is hovering around 65/ $ (Levels which were last seen in Sept 2013), it is unlikely that we might have any impact in terms of inflows and investments. India which was considered one of the “FRAGILE FIVE” two years ago, is looking remarkably stable if one looks beyond day-to-day action. Interest rates are dropping, too slowly but nevertheless. In terms of stability, at the moment India looks quiet good in an uncertain global situation. While in the short term perspective the market movements are neutral, the long term perspective persists to be bullish in nature according to me.
Thank you 🙂