Enough evidence that recovery is underway in India: Chetan Ahya

Interview with Managing director, Morgan Stanley Asia

The world is not a pretty place at this point, with global growth hovering near recession levels and developed markets staring at a secular stagnation risk. While the outlook for equities remains bearish, Chetan Ahya, managing director, Morgan Stanley Asia, tells Malini Bhupta that recovery is underway in India, as the macroeconomic situation has improved. Edited excerpts:

For two quarters, global growth has been at 2.5 per cent. Could the world slip into recession?

Our view is that things should improve and (global) growth will recover to three per cent in 2016.

What has gone wrong?

The December quarter itself clocked 2.5 per cent growth, which is pretty low. Emerging markets (EMs) had changes in expectation when there was talk of the US Federal Reserve hiking rates and that resulted in tightening as currencies depreciated. The growth of EMs was impacted and that also impacted developed markets.

The biggest component of this EM slowdown was China, as commodity prices had fallen along with China's slowdown from December 2014 to the end of the first quarter of 2015. Meanwhile, as commodity prices had fallen, it was having ramifications for Russia and Brazil. The EM space has been going through challenges, while developed markets have seen improvement.

You don’t see developed markets coming under stress?

They are not causing the bigger problem for the global economy. The US economy is growing at 1.5 per cent in the first half of 2016 and is still not very robust. The reason is the external environment.

Is it true that US corporate debt is coming under selling pressure and next in the line of fire could be the dollar?

When oil prices collapsed, there was some widening of corporate bond yield spreads but that has again moderated.

You are concerned about the global economy remaining stuck in a low growth environment.

The global economy is suffering from a 3D problem. One, demographics deteriorating in all large economies other than India. Two, big economies have a challenge of high debt to GDP (gross domestic product) ratios. Three, high disinflationary pressures. A combination of these three is keeping us concerned on the global growth trajectory.

What needs to be done?

We need fiscal expansion by governments, as demand has to be created. After the credit crisis, all developed market governments have reduced fiscal deficits, risking further weakness in aggregate demand and persistent disinflationary pressures. The longer you stay in a low growth environment, the anchoring of business return expectations, they will be even less comfortable with recovery in capital expenditure, which creates a vicious loop. This has been described by Larry Summers as secular stagnation risk.

What do you expect the (US) Federal Reserve to do?

We expect the Fed to hike (its policy rate) once before the end of the year and if data points surprise positively, there could be one in September. Our base case is one hike and that is in December. We see a good chance that the Fed in its June meeting will have to reduce its growth forecast from the present 2.2 per cent. Similarly, the core PCE (personal consumption expenditure) inflation they look at is running at 1.6 per cent and we don't see this showing a meaningful upward trajectory towards two per cent, putting pressure on the Fed to hike.

Do you see a meaningful recovery in commodities?

There's less uncertainty on industrial commodities and it is more demand driven. We think China's demand for investment will keep going declining and I am not bullish on industrial commodities. The recent policy easing has re-flated its economy but we don't see a sustainable pick up in China's investment cycle.

How does India look in the middle of all this?

The world is going through a challenging time. India does not have the same problem. India was facing a deep cyclical slowdown because it goes through these productivity destruction cycles. India doubled its fiscal deficit to 10 per cent (of GDP) after the credit crisis. There were some other things that went wrong along with this. Second, intervention in the rural market and significant increase in rural wages. We attribute it to intervention into the labour market.

Both these resulted in CPI (consumer price index inflation) staying at 10 per cent levels and the Reserve Bank of India kept interest rates negative. Corruption scandals completely slowed the administrative approval process. These resulted in a deep cyclical slowdown. Macro stability has now improved and the fiscal deficit is down, rural wage growth is down, the interest rate is positive and approval processes are back on track. We have enough evidence that recovery is underway.

Which sectors will lead?

We expect domestic consumption sector to lead the manufacturing growth. We believe growth is recovering if you look at key charts.