Economy in 'Gambhir phase'; T20 quick-fixes won't work

By Arjun Parthasarathy

How soon will the global economy heal? The answer depends on whether we are talking about serious healing or a quick-fix heal for the short-term.

The right analogy is Gautam Gambhir’s shoulder injury. He can play one IPL match with pain-killers and medicine, but to play his old game, he needs weeks of rest and recuperation. There is no quick-fix.

That said, let’s look at what’s in store for the US economy - which holds the key to global recovery. A slow economic recovery requires a friendly monetary policy and a loose fiscal policy. However, monetary policy will have to take into account price stability while fiscal policy will have to take a path of fiscal consolidation down the line.

Monetary and fiscal policy should not devalue the currency. This, in a nutshell, is the US Federal Reserve’s (the Fed) reading of the US economy. In terms of policy action, the Fed will keep rates at record lows of 0-0.25% while maintaining its balance-sheet (its borrowings) at record levels.

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The Fed will not purchase more US treasuries, meaning, there will be no third quantitative easing programme. The market will treat the Fed policy as a non-event as it does not give any ammunition to short-sell the US dollar or buy commodities and equities. Hence, the economy itself will give the direction to the market and not policymakers, which is what is necessary for a healthy market.

[caption id="" align=“alignleft” width=“380” caption=“Like our injured sportsman, the economy also needs to follow a similar course of action. AFP Photo”][/caption]

Like our injured sportsman, the economy also needs to follow a similar course of action. When crises such as the one in 2008 happen, loose monetary and fiscal policies can keep the economy going for a while, but in the longer run the economy has to heal itself to form a strong base for sustained economic growth.

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Loose policy has its ugly side-effects: weak currency, as in the case of the US, inflation, as in the case of India, and debt issues, as in the case of the eurozone. A strong economy is where inflation is contained, the currency strengthens and fiscal consolidation quickens.

Policymakers and markets like quick-fixes. The reason is that a policymaker’s tenure is short while markets live off yearly returns. Economies, unfortunately, do not see it that way. It takes a while for the economy to heal and then strengthen, and till that time policymakers would have changed and markets will have gone through a rough consolidation phase. Short-term pain for long-term gain is how economies work best.

India is in a situation where it is going through a healing process. The excesses of the past (read: market bubbles) have not completely gone out of the economy and are showing up in inflation, scams and political issues. Policymakers are forced to tighten policy in the face of inflation, which is trending close to double-digit levels.

The Reserve Bank has raised interest rates and kept liquidity tight in the system while the government is keeping a close watch on fiscal consolidation. In this process there are concerns of economic growth slowing down and corporate profitability taking a hit. Such concerns are not unfounded in the face of rising rates, high inflation and lower government spending.

However, as the economy heals and strengthens on its own without external thrust, the base for the next long period of strong growth is formed. India, at present, is consolidating itself for the next long period of strong growth.

Investors should see this period of consolidation as good long-term entry points. The markets will worry about the short-term and that is its nature. Investors are better off worrying about the long term. If that looks promising, investors should enter confidently.

www.arjunparthasarathy.com