Life after downgrade: Still some silver linings?

Indian markets have reacted predictably on Monday, tanking sharply on the first trading day after the S&P downgrade of the US long-term debt rating. The concerns are obvious: is this the beginning of the return to 2008, when the global economy was teetering on the edge? Is a double-dip recession round the corner? Even the latest issue of The Economist talks of the possibility of a double-dip recession.

However, analysts also believe that for India there could still be some silver linings, despite the string of bad news emanating from the global economy. One of the key aspects of this latest development relating to the US is the fact that there is no precedence of such an event. Hence, financial markets could take time to eventually understand and factor in the full implications of this move.

“In the meantime, asset allocation in the immediate near term may be biased towards gold,” reasons Indranil Pan, chief economist at Kotak Bank. Pan’s hypothesis is that even though the US rating is no longer triple A, other debt markets may not be seen as safe havens. In fact, the European markets are facing a more serious situation since the interholding of debt between eurozone economies raises serious contagion issues, suggests Pan.

It is, of course, clear that the Indian equities market will see a downturn in the near term as the bad news on the global front continues. S&P has warned that a renewed slowdown could create a deeper, more prolonged impact on the Asia-Pacific economies this time. Also, economies which are largely dependent on the US will, doubtless, take a greater hit. Analysts see serious impediments to further liquidity injection in the US as fiscal austerity will now be top priority. This will impact growth in the US.

From the Indian markets perspective, however, the news may not be that bad in the medium term. While in the immediate context markets will remain choppy and the key indices are likely to show signs of a clear downward movement, the softening of the global economy could have a major impact on global commodity prices. This will mean lower input costs and could be good news for companies, particularly those whose bottomlines have been impacted by sharply escalating input prices.

Analysts are also forecasting India’s growth to be largely resilient at around 7.5 percent for 2012 and this could limit flight of capital. The markets apart, analysts are also keeping a close and watchful eye on the Reserve Bank of India.

While, after the last sharp rate hike of 50 basis points, most bets were on another hike of around 25 basis points, the last week’s developments on the global front seems to have thrown most calculations off gear. Mint Road’s next rate call could set the trajectory for markets and be the next big trigger.

The author works with the RPG Group. The views are personal.

Watch video: In an interview to CNBC-TV18, Takahira Ogawa, S&P said, the uncertainty in the global capital and financial markets might directly or indirectly affect Asian economies.