India is not a safe haven - but you can still buy it

India is no different from the rest of the globe when it comes to the economy. One should not buy India because of its population or consumption story. One should buy India because it’s a democracy and has the ability to put things right.

The country is showing that it can put things right by punishing the corrupt, righting the wrongs of monetary and fiscal loosening and trying to gain political consensus on subsidies. The latter is a long hard grind, but it’s worth it.

The US is tottering, the eurozone is in a shambles, Japan in the doldrums and China could face a hard landing. India, with its projected headline GDP growth of 7 percent plus, relatively protected bond markets (debt is internalised) and highly regulated banking system (30 percent of deposits go into statutory reserves) seems to stand out amidst the global turmoil. The media is quoting politicians, economists, market men and bureaucrats on the safe haven status of India.

[caption id=“attachment_57020” align=“alignleft” width=“380” caption=“India stood out in the credit crisis of 2008 because its financial system was insulated from the global carnage by sound countercyclical central bank policies. Indranil Mukherjee/AFP”] [/caption]

India does not stand out in the global turmoil and is definitely not a safe haven country. In fact, India stood out in the credit crisis of 2008 because its financial system was insulated from the global carnage by sound countercyclical central bank policies. The Reserve Bank of India (RBI) under the governorship of YV Reddy resisted all attempts by businessmen and politicians to loosen regulations and let a flood of foreign money come into the country. The results of the RBI’s policies at that time are there for everyone to see.

Post the 2008 crisis, India went down the path of global governments and central banks in pump priming the economy. The government borrowed and spent money, taking up the fiscal deficit by almost 3 percent while the RBI cut rates by 4 percent to all-time lows. The result, an economic recovery built on steroids, which proved unsustainable.

GDP growth went up by over 1.5 percent while inflation went up by 6 percent.

That is the reason India is following the trend of global markets with the Sensex falling in tandem with global equity indices in the current market selloff. The Sensex has lost 7 percent since the beginning of August post the US debt debacle.

India has a long way to go before becoming a safe haven. India runs a fiscal deficit and has been running one for the last 20 years. India’s central government debt (internal liabilities) to GDP ratio, at around 50 percent, is better than many countries, including the US (projected at 74 percent of GDP for 2011).

The fact that India’s debt is lower than other countries does not make it superior to them. India’s outstanding debt has doubled over the last six years, even as the country experienced GDP growth of over 8.5 percent on an average in the same period. India also runs large subsidies, which has remained sticky at around 1.5 percent of GDP over the years, except for the pump-priming period between 2008-2010 when the subsidy bill went up to close to 2.5 percent of GDP.

India runs a current account deficit - our net deficit on the external account before capital flows - which is projected at around 2.5 percent of GDP. The country imports 75 percent of its oil requirements and given that fuel is subsidised, rising oil prices do not diminish consumption. Oil imports constitute 25 percent of total imports. The current account gap is funded by capital flows. The country has portfolio flows of $28 billion in 2010-11 while fiscal 2011-12 (year to date) portfolio flows have been just slightly positive. The dependence on volatile capital flows to pay for subsidised consumption makes the country vulnerable to global shocks.

Buy India, but wait for the returns.

The author is editor at www.investorsareidiots.com , a financial web site for investors.