Economic forecasting is akin to speculation, little wonder that Economics is often referred to as dismal science. Attempting any analysis about nature of human economic behaviour is difficult not only because of the complexities involved but also due to the inability to understand human psychology. The fact that most of the time economic forecasts go horribly wrong does not reduce the increasing number of forecasters attempting their luck. Success is always ascribed to an individual’s brilliance while failure is ascribed to ‘black swan’ events. Since I have always claimed that my short-term forecasts are very often wrong, no claim is made being a successful forecaster. Instead, I have constantly made an attempt to capture important medium to long-term trends, which have often been right. This is in turn is largely because I have always attempted the present in the context of the larger socio-historical context. An attempt is made to highlight important trends for the New Year (2012).
The year 2011 is study in contrasts. In early 2011, most analysts were optimistic and a small minority (including Yours Truly) continued to be bearish. There is and will not be any change in my long-term bearish prognosis. At last, pessimism seems to have overtaken the herd, with some even suggesting that a break up of Eurozone as being imminent. Before delving into possible trends for 2012, the past years mood is captured by the following photo. The next year should see yet another boom for this sort of business.
The year 2011 is study in contrasts. In early 2011, most analysts were optimistic and a small minority (including Yours Truly) continued to be bearish. There is and will not be any change in my long-term bearish prognosis. At last, pessimism seems to have overtaken the herd, with some even suggesting that a break up of Eurozone as being imminent. Before delving into possible trends for 2012, the past years mood is captured by the following photo. The next year should see yet another boom for this sort of business.
If the past four years are any indication, 2012 is unlikely to span out as most of the analysts expect. The prognosis for the demise or the reordering of the Eurozone is unlikely to occur – at least in 2012. It is pertinent to note that unless something dramatic is triggered, more as an unintended consequence rather than otherwise, Europe is likely to tumble in and out of a crisis in 2012, rather than collapse. This is because policy makers still have some amount of ammunition left, albeit a bit. While a meltdown in Europe is an extremely low probability event, an easily discernible trend is likely to be accentuated deleveraging of households, banks and even governments. The problem for the economy is that this is likely to occur at the same time, thereby aggravating the problems for the world economy.
A remarkable feature of 2012 is that this is probably going to one of those rare events in History where the impact of full blown, severe recession is unlikely to be buffered by counter-cyclical policy interventions.
If recent data emanating from the UK economy, Shipping industry and the results of Oracle Corporation may be construed as part of a broader trend, then it is clear that we are in the midst of a long-term secular contraction of the global economy. The only difference is that the globalised nature of the economy means that unlike in the past recessions, it may be contracting slower than normally expected. Importantly, each down move is accompanied by government interventions, which, in turn are reinforcing the supposed semblance of recovery that we see periodically. Illustrating the above contention by extrapolating data from UK, business services and finance (usually important advance indicators) have started to decline. Transport, storage and communications have plunged substantially. Shipping industry has pointed out with substantial exasperation that they do not foresee any recovery till at least 2013.
In an era of secular deleveraging, fixed income (non-EU region) will be the least risky investment space – a continuation of 2011 trend. The fact that in a number of countries, including EU, rates are likely to decline should help the fixed income space. Eurozone yields are likely to get worse, despite ECB reducing rates. I believe ECB will reduce the rates by another 50 basis points in the first quarter of 2012. Not that this will help, but they, like Alan Greenspan in the early 1990s and Ben Bernanke immediately after Lehman meltdown believe that one way they can help banks dig out of the hole is to help them earn larger spreads. One can only hope, they have understood the Japanese case of ‘balance sheet recession’, which is playing out on a larger scale with Governments, Banks and individuals facing the same feature – all at the same time. Avoiding EU debt may end up as a prudent move, unless yields shoot up to very attractive levels where they discount a vicious economic depression. Yields will rise in 2012, though it is unlikely they will rise to levels that may be attractive for a risky bet on the long side. The case of Italy is illustrative: despite aggressive bond buying by ECB, the yields continue to hover in the range of 6.75-7.50. it is likely that the EU zone countries as a whole, and not just the highly indebted ones, will face severe problems that will lead to a loss of investor confidence. The reason why the yields of Italy and other indebted EU countries are likely to get worse is that they are all likely to miss their austerity targets. Recession will lead to lower revenues and this in turn will lead to a ever-growing need for large scale future austerity and ever larger borrowing in order to bridge the budget gap. Large-scale sovereign defaults may not be likely in 2012, but a severe recession is likely to make defaults or rescheduling of debt a high probably event at the end of 2013 or 2014 (non Greek debt).
Europe: Light at the end of the Tunnel or Light at a dead end?
The major risks in 2012 are likely to emanate, in my opinion, from Euro zone and the Emerging markets. The problems in EU require some elucidation, even if it risks sounding like a broken record. The primary issue in 2012 will be that EU sovereigns need to raise about US$1.8 trillion while the banks need to raise another nearly US$800 billion. This excludes corporate debt that needs to be rolled over or repaid. A major portion of this falls due in the first six months. If this issue is resolved without hurting the economic prospects of the EU economy, the major issue that needs to resolved an orderly deleveraging and untying the Gordian knot in the EUs banking system which is estimated at Euro 23 trillion. This needs to be resolved at a precise time when the governments believe that fiscal austerity, exactly at a time when most countries are at the cusp of a recession or at best stagnation is the best way forward. In other words, the sheer magnitude of the problem of everybody deleveraging at the same time is terrifying – to put in mildly. This will have devastating consequences round the globe, especially in the Emerging markets. EU banks were the major funding agencies for the Eastern European Economies and Emerging Asia. UBS points out that the European banks have provided most of the credit in recent years – US$4.4 trillion out of the total US$5.5 trillion credit to emerging markets. EU bank deleveraging will invariably have a major impact on these countries. Others like Morgan Stanley estimates that the deleveraging could be about US$3.3 trillion spread over the next few years rather than by 2012. Apart from this, EU economy is a large consumer of various commodities: it consumes nearly 19% of the global copper produces and nearly one in six barrels of oil sold. Unfortunately, the growth in the emerging markets is highly correlated to commodity prices.
Growing problems in EU will invariably lead to an additional stimulus in various forms (quantitative easing). German resistance to full fledged QE may be overcome only after their elections in 2013; hence QE on the sly seems to be the way out in 2012. But, unless EU countries drastically reschedule their debt or preferably default on large components of their debt, the light at the end of the tunnel is likely to end up like this:
A remarkable feature of 2012 is that this is probably going to one of those rare events in History where the impact of full blown, severe recession is unlikely to be buffered by counter-cyclical policy interventions.
If recent data emanating from the UK economy, Shipping industry and the results of Oracle Corporation may be construed as part of a broader trend, then it is clear that we are in the midst of a long-term secular contraction of the global economy. The only difference is that the globalised nature of the economy means that unlike in the past recessions, it may be contracting slower than normally expected. Importantly, each down move is accompanied by government interventions, which, in turn are reinforcing the supposed semblance of recovery that we see periodically. Illustrating the above contention by extrapolating data from UK, business services and finance (usually important advance indicators) have started to decline. Transport, storage and communications have plunged substantially. Shipping industry has pointed out with substantial exasperation that they do not foresee any recovery till at least 2013.
In an era of secular deleveraging, fixed income (non-EU region) will be the least risky investment space – a continuation of 2011 trend. The fact that in a number of countries, including EU, rates are likely to decline should help the fixed income space. Eurozone yields are likely to get worse, despite ECB reducing rates. I believe ECB will reduce the rates by another 50 basis points in the first quarter of 2012. Not that this will help, but they, like Alan Greenspan in the early 1990s and Ben Bernanke immediately after Lehman meltdown believe that one way they can help banks dig out of the hole is to help them earn larger spreads. One can only hope, they have understood the Japanese case of ‘balance sheet recession’, which is playing out on a larger scale with Governments, Banks and individuals facing the same feature – all at the same time. Avoiding EU debt may end up as a prudent move, unless yields shoot up to very attractive levels where they discount a vicious economic depression. Yields will rise in 2012, though it is unlikely they will rise to levels that may be attractive for a risky bet on the long side. The case of Italy is illustrative: despite aggressive bond buying by ECB, the yields continue to hover in the range of 6.75-7.50. it is likely that the EU zone countries as a whole, and not just the highly indebted ones, will face severe problems that will lead to a loss of investor confidence. The reason why the yields of Italy and other indebted EU countries are likely to get worse is that they are all likely to miss their austerity targets. Recession will lead to lower revenues and this in turn will lead to a ever-growing need for large scale future austerity and ever larger borrowing in order to bridge the budget gap. Large-scale sovereign defaults may not be likely in 2012, but a severe recession is likely to make defaults or rescheduling of debt a high probably event at the end of 2013 or 2014 (non Greek debt).
Europe: Light at the end of the Tunnel or Light at a dead end?
The major risks in 2012 are likely to emanate, in my opinion, from Euro zone and the Emerging markets. The problems in EU require some elucidation, even if it risks sounding like a broken record. The primary issue in 2012 will be that EU sovereigns need to raise about US$1.8 trillion while the banks need to raise another nearly US$800 billion. This excludes corporate debt that needs to be rolled over or repaid. A major portion of this falls due in the first six months. If this issue is resolved without hurting the economic prospects of the EU economy, the major issue that needs to resolved an orderly deleveraging and untying the Gordian knot in the EUs banking system which is estimated at Euro 23 trillion. This needs to be resolved at a precise time when the governments believe that fiscal austerity, exactly at a time when most countries are at the cusp of a recession or at best stagnation is the best way forward. In other words, the sheer magnitude of the problem of everybody deleveraging at the same time is terrifying – to put in mildly. This will have devastating consequences round the globe, especially in the Emerging markets. EU banks were the major funding agencies for the Eastern European Economies and Emerging Asia. UBS points out that the European banks have provided most of the credit in recent years – US$4.4 trillion out of the total US$5.5 trillion credit to emerging markets. EU bank deleveraging will invariably have a major impact on these countries. Others like Morgan Stanley estimates that the deleveraging could be about US$3.3 trillion spread over the next few years rather than by 2012. Apart from this, EU economy is a large consumer of various commodities: it consumes nearly 19% of the global copper produces and nearly one in six barrels of oil sold. Unfortunately, the growth in the emerging markets is highly correlated to commodity prices.
Growing problems in EU will invariably lead to an additional stimulus in various forms (quantitative easing). German resistance to full fledged QE may be overcome only after their elections in 2013; hence QE on the sly seems to be the way out in 2012. But, unless EU countries drastically reschedule their debt or preferably default on large components of their debt, the light at the end of the tunnel is likely to end up like this:
The markets will be euphoric at various points because of the mirage of recovery but as they realise that the reality is far from good, optimism that is likely to emerge in the middle may peter out by either the end of the year or in 2014. However, if there is full fledged quantitative easing by the World’s Central Banks, it may create a semblance of recovery for about 18-20 months, thereby providing a respite for countries – yet another wasted crisis.
An interesting aspect of 2011, is that the end of the year has seen renewed optimism about US economic recovery. However, the fact that most of the forecasters have been continuously wrong about the direction of the US economy for the past four years means that they have tempered their optimism and instead believe that US is the best amongst the worst when it comes to economic recovery. However, it is imperative that optimism about the US recovery needs to be tempered for the simple reason that the strength of the past two months is largely temporary. Consumers in a deleveraging cycle often slash their expenditure quite drastically. The occasional indulgence is likely, especially when there are large discounts or during their major festival times. More importantly, a large part of recent US economic recovery has been due to pick up in exports and capital flows on the back of weakness of the US dollar (till about October) and the need for inventory re-stocking just ahead of the important Christmas Shopping period. Capital flows may continue due to risk aversion but such capital is likely to flow into the bond market rather than the real economy. In 2012, export driven recovery is unlikely to beyond the first quarter. The weakness in the Euro and the rising strength of the US Dollar may be detrimental to US exports, unless there is another round of stimulus from the US Fed. Weakness in the Euro may help a marginal improvement in the economies of Eurozone, especially in the second half of the year.
Black Swans in 2012: Emerging Markets?
Conventional Wisdom believes that Emerging Markets are likely to emerge relatively less bruised from the EU crisis. It may be prudent to believe otherwise. On the contrary, I believe emerging markets will be surprise everyone to the downside in 2012. They are the Black Swans for 2012 The case of two major emerging markets (China and India) illustrates the problem at hand in the emerging markets. The manner in which 2012 spans out may have a lot to do with happens in Eurozone and the emerging markets, especially China.
China: A Plausible Japan in the Making?
China’s position is especially unenviable and, if their policy makers engineer a soft landing it should go down as an economic policy wonder. The present Chinese bubble ranks as one of the largest bubbles in the history of the human race. Over the past three decades Chinese have built an economic model that is completely dependent on exports and property construction, along with fixed investment by the State backed by liberal supply of subsidised cheap credit. The result has been that China has never seen an economic cycle in any industry segment at a time when they have excess supply and spare capacities. Investment accounts for 46% of the GDP and it has a savings rate of 54%.
The two fundamental pillars, on which Chinese economy rests, Exports and Property markets, are in deep trouble. Financial Times, London estimates that there are an estimated 80,000 property developers in the Country and they own enough land to build nearly 100 million apartments with capacity to satisfy housing demand for the next 20 years. Property construction accounts for nearly 13% of the GDP and more than one-fourth of all investment. At the height of the 2005 property bubble in USA the price of an average apartment peaked at 5.1 times average annual income and never crossed 6 times annual incomes. In China, it is now 8-10 times and in the pricey cities like Beijing and Shanghai it is close to 30 times. This boom in turn was financed by credit pumped in order to buffer the fall in the aftermath of Lehman meltdown. Credit supply increased by nearly 200% since 2008. Fitch points out that China needs ever larger doses of financing for its output: in 2007 one dollar of loans raised GDP by $0.77, by 2011 it had fallen to US$0.44. This occurred concurrent to a decline of consumption as a share of GDP from 48% in the late 1990s to the present 36%. China has now indicated that it would like to change its economic model to one that is based on internal consumption. Historically, that process takes decades. High indebtedness makes this attempted transformation more complicated and difficult, even for a country with huge foreign exchange reserves. It has been pointed out that local governments derive nearly 40% of their incomes from property and land related speculative activities.
2012 should be a particularly worrisome year for China. This worry arises because a large proportion of the financing by EU banks has gone into trade financing. The Chart below (from Financial Times, London) provides an overview of the nature of such funding against the total outstanding foreign bank claims in Asia and Latin America, the largest borrowers along with Central and Eastern Europe (CEE).
An interesting aspect of 2011, is that the end of the year has seen renewed optimism about US economic recovery. However, the fact that most of the forecasters have been continuously wrong about the direction of the US economy for the past four years means that they have tempered their optimism and instead believe that US is the best amongst the worst when it comes to economic recovery. However, it is imperative that optimism about the US recovery needs to be tempered for the simple reason that the strength of the past two months is largely temporary. Consumers in a deleveraging cycle often slash their expenditure quite drastically. The occasional indulgence is likely, especially when there are large discounts or during their major festival times. More importantly, a large part of recent US economic recovery has been due to pick up in exports and capital flows on the back of weakness of the US dollar (till about October) and the need for inventory re-stocking just ahead of the important Christmas Shopping period. Capital flows may continue due to risk aversion but such capital is likely to flow into the bond market rather than the real economy. In 2012, export driven recovery is unlikely to beyond the first quarter. The weakness in the Euro and the rising strength of the US Dollar may be detrimental to US exports, unless there is another round of stimulus from the US Fed. Weakness in the Euro may help a marginal improvement in the economies of Eurozone, especially in the second half of the year.
Black Swans in 2012: Emerging Markets?
Conventional Wisdom believes that Emerging Markets are likely to emerge relatively less bruised from the EU crisis. It may be prudent to believe otherwise. On the contrary, I believe emerging markets will be surprise everyone to the downside in 2012. They are the Black Swans for 2012 The case of two major emerging markets (China and India) illustrates the problem at hand in the emerging markets. The manner in which 2012 spans out may have a lot to do with happens in Eurozone and the emerging markets, especially China.
China: A Plausible Japan in the Making?
China’s position is especially unenviable and, if their policy makers engineer a soft landing it should go down as an economic policy wonder. The present Chinese bubble ranks as one of the largest bubbles in the history of the human race. Over the past three decades Chinese have built an economic model that is completely dependent on exports and property construction, along with fixed investment by the State backed by liberal supply of subsidised cheap credit. The result has been that China has never seen an economic cycle in any industry segment at a time when they have excess supply and spare capacities. Investment accounts for 46% of the GDP and it has a savings rate of 54%.
The two fundamental pillars, on which Chinese economy rests, Exports and Property markets, are in deep trouble. Financial Times, London estimates that there are an estimated 80,000 property developers in the Country and they own enough land to build nearly 100 million apartments with capacity to satisfy housing demand for the next 20 years. Property construction accounts for nearly 13% of the GDP and more than one-fourth of all investment. At the height of the 2005 property bubble in USA the price of an average apartment peaked at 5.1 times average annual income and never crossed 6 times annual incomes. In China, it is now 8-10 times and in the pricey cities like Beijing and Shanghai it is close to 30 times. This boom in turn was financed by credit pumped in order to buffer the fall in the aftermath of Lehman meltdown. Credit supply increased by nearly 200% since 2008. Fitch points out that China needs ever larger doses of financing for its output: in 2007 one dollar of loans raised GDP by $0.77, by 2011 it had fallen to US$0.44. This occurred concurrent to a decline of consumption as a share of GDP from 48% in the late 1990s to the present 36%. China has now indicated that it would like to change its economic model to one that is based on internal consumption. Historically, that process takes decades. High indebtedness makes this attempted transformation more complicated and difficult, even for a country with huge foreign exchange reserves. It has been pointed out that local governments derive nearly 40% of their incomes from property and land related speculative activities.
2012 should be a particularly worrisome year for China. This worry arises because a large proportion of the financing by EU banks has gone into trade financing. The Chart below (from Financial Times, London) provides an overview of the nature of such funding against the total outstanding foreign bank claims in Asia and Latin America, the largest borrowers along with Central and Eastern Europe (CEE).
Deleveraging by banks has the potential to create tumult for China because it is likely to reduce trade credit, which in turn has an impact on goods exported by it.
This is not to claim that China is on the verge of a collapse. It is essentially argued that China has only marginal ability to provide stimulus, especially when compared to 2008. A severe recession is likely to erode China’s capital account surplus – a fact acknowledged by Chinese policy makers who are calling for a weaker Yuan in 2012. A slowdown in exports has the ability to create social unrest for China for the simple reason that slower exports are likely to wipe out innumerable smaller companies which in turn are likely to cause unrest amongst the nearly 200 million migrant workers.
India: Back to 1990s?
Amongst the BRICs countries, India is likely to be an economy that may end up being relatively more beaten than the rest in 2012. There are eerie similarities to the kind of economic issues that India faced in the period from 1995-1998. In the immediate aftermath of liberalization, there was a rush to raise money through Global Depository Receipts (GDRs). Most of this went into expanding capacities, speculating in the stock markets or speculating in Real Estate. The expansion drive of Indian companies was built of supposed consumption prowess of the India’s huge population. The initial burst of activity was fuelled in some measure with foreign investors rushing into India with their investment plans, in the hope that the Indian market was waiting to be exploited. The end result was that there were huge capacities built by assuming large quantities of debt. Overly enthusiastic foreign investors learnt the hard way that their Indian market was more complex than the spreadsheet driven plans envisaged. By the mid-1990s, highly leveraged Indian companies were more or less broken by the high cost of debt and it took them a long time to work through the period of excess. Déjà vu at the end of 2012? Though, a number of observers would be scandalized with such comparisons, a researcher would find many similarities. The claims of ever expanding demand to 2030 and the claim that “this time is different” with supposed dynamism of the country are the most commonly heard themes.
India has problems that are relatively well known: current account deficit that exceeds 3%, revenue deficit and a bloating fiscal deficit, which when combined with the State governments’ may exceed 12%. Last year, auction of spectrum saved the day, a luxury that is unlikely to recur for the next few years. The government has announced plans to dispose real estate assets, but if the plan succeeds it is likely to raise far less than expected for the simple reason that it will be selling assets in a falling market. The short fall in indirect tax collections is expected to exceed 10% of estimates (about Rs.40,000 crores, going by present trends). If the situation in Europe gets worse, it may revenue collections may exceed even that figure. Interestingly, the past two years has shown that any country with a current account deficit of more than 3% has run into trouble sooner than latter – France is the latest that is facing bond jitters. India has not balanced its budget most of the time. With revenues declining, it is unlikely to make matters better.
Corporate indebtedness and their inability to service their borrowing binge have now undermined the health of the banking sector. Till date, the banking sector was could overcome the crisis because of growing credit demand. Since NPAs are a calculated as a percentage of assets of the bank, as long as credit demand (and supply) continued to grow, the problem was never serious: it was easy to refinance and recycle existing debt, albeit at a higher cost. There are various estimates about the magnitude of indebtedness of the Indian corporate sector.
There are two important sources of stress for the Indian private sector that are likely to cast a shadow for at least 2-3 years. The sectors that are stressed are stated to have outstanding debts exceeding Rs.3 lakh crores (at least US$569 billion with INR-USD exchange rate taken as Rs.52). It has been pointed out that European banks have lent nearly US$159 billion out of the total foreign lender claims of US$289 billion. Even if 20% of these loans are not renewed, Indian companies will be in deep trouble. FCCB conversion is but one stress point. This pressure comes at a time when nearly US$137 billion of India’s total external debt is due to mature by end of June 2012 – most of the dues are in the private sector. In other words, if India, especially the Indian corporate sector can navigate the first two quarters, it should be considered a great achievement.
A decelerating world economy will be unmitigated disaster for India for a number of reasons, the primary of which are (a) India is a country that is deficit in capital, (b) Indian growth is highly correlated to commodity prices, (c) India’s largest trading partners are China, USA and Eurozone (all of which are in trouble). The confluence of the above factors with an over-leveraged economy, lack of ability on the part of the government to spend money on counter cyclical measures creates a potent mix of combustible material which could bring the Currency crashing down. All the conditions exist for a possible macro-economic shock in India: the missing piece of the jigsaw puzzle will fall into place if FIIs decides to sell another US$20 billion or if Oil prices shoot up. If that were to happen, it would the proverbial last straw on the camel’s back. If neither of these two negative events occur then India may close 2012 badly bruised but living to see another day. A crash in oil prices say to about US$60 level would provide the much needed succor.
Thus, 2012 may go down as the year of multiple low intensity crisis, rather than a Lehman type event. In other words, it will be a continuation of the Japan type downmove that we pointed out about two years back.
This is not to claim that China is on the verge of a collapse. It is essentially argued that China has only marginal ability to provide stimulus, especially when compared to 2008. A severe recession is likely to erode China’s capital account surplus – a fact acknowledged by Chinese policy makers who are calling for a weaker Yuan in 2012. A slowdown in exports has the ability to create social unrest for China for the simple reason that slower exports are likely to wipe out innumerable smaller companies which in turn are likely to cause unrest amongst the nearly 200 million migrant workers.
India: Back to 1990s?
Amongst the BRICs countries, India is likely to be an economy that may end up being relatively more beaten than the rest in 2012. There are eerie similarities to the kind of economic issues that India faced in the period from 1995-1998. In the immediate aftermath of liberalization, there was a rush to raise money through Global Depository Receipts (GDRs). Most of this went into expanding capacities, speculating in the stock markets or speculating in Real Estate. The expansion drive of Indian companies was built of supposed consumption prowess of the India’s huge population. The initial burst of activity was fuelled in some measure with foreign investors rushing into India with their investment plans, in the hope that the Indian market was waiting to be exploited. The end result was that there were huge capacities built by assuming large quantities of debt. Overly enthusiastic foreign investors learnt the hard way that their Indian market was more complex than the spreadsheet driven plans envisaged. By the mid-1990s, highly leveraged Indian companies were more or less broken by the high cost of debt and it took them a long time to work through the period of excess. Déjà vu at the end of 2012? Though, a number of observers would be scandalized with such comparisons, a researcher would find many similarities. The claims of ever expanding demand to 2030 and the claim that “this time is different” with supposed dynamism of the country are the most commonly heard themes.
India has problems that are relatively well known: current account deficit that exceeds 3%, revenue deficit and a bloating fiscal deficit, which when combined with the State governments’ may exceed 12%. Last year, auction of spectrum saved the day, a luxury that is unlikely to recur for the next few years. The government has announced plans to dispose real estate assets, but if the plan succeeds it is likely to raise far less than expected for the simple reason that it will be selling assets in a falling market. The short fall in indirect tax collections is expected to exceed 10% of estimates (about Rs.40,000 crores, going by present trends). If the situation in Europe gets worse, it may revenue collections may exceed even that figure. Interestingly, the past two years has shown that any country with a current account deficit of more than 3% has run into trouble sooner than latter – France is the latest that is facing bond jitters. India has not balanced its budget most of the time. With revenues declining, it is unlikely to make matters better.
Corporate indebtedness and their inability to service their borrowing binge have now undermined the health of the banking sector. Till date, the banking sector was could overcome the crisis because of growing credit demand. Since NPAs are a calculated as a percentage of assets of the bank, as long as credit demand (and supply) continued to grow, the problem was never serious: it was easy to refinance and recycle existing debt, albeit at a higher cost. There are various estimates about the magnitude of indebtedness of the Indian corporate sector.
There are two important sources of stress for the Indian private sector that are likely to cast a shadow for at least 2-3 years. The sectors that are stressed are stated to have outstanding debts exceeding Rs.3 lakh crores (at least US$569 billion with INR-USD exchange rate taken as Rs.52). It has been pointed out that European banks have lent nearly US$159 billion out of the total foreign lender claims of US$289 billion. Even if 20% of these loans are not renewed, Indian companies will be in deep trouble. FCCB conversion is but one stress point. This pressure comes at a time when nearly US$137 billion of India’s total external debt is due to mature by end of June 2012 – most of the dues are in the private sector. In other words, if India, especially the Indian corporate sector can navigate the first two quarters, it should be considered a great achievement.
A decelerating world economy will be unmitigated disaster for India for a number of reasons, the primary of which are (a) India is a country that is deficit in capital, (b) Indian growth is highly correlated to commodity prices, (c) India’s largest trading partners are China, USA and Eurozone (all of which are in trouble). The confluence of the above factors with an over-leveraged economy, lack of ability on the part of the government to spend money on counter cyclical measures creates a potent mix of combustible material which could bring the Currency crashing down. All the conditions exist for a possible macro-economic shock in India: the missing piece of the jigsaw puzzle will fall into place if FIIs decides to sell another US$20 billion or if Oil prices shoot up. If that were to happen, it would the proverbial last straw on the camel’s back. If neither of these two negative events occur then India may close 2012 badly bruised but living to see another day. A crash in oil prices say to about US$60 level would provide the much needed succor.
Thus, 2012 may go down as the year of multiple low intensity crisis, rather than a Lehman type event. In other words, it will be a continuation of the Japan type downmove that we pointed out about two years back.
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