T N Ninan: The Great Market Non-Crash

It is other financial sectors that need attention

While people fret about the fall in stock prices, the reality seems strangely disconnected when viewed at a slight distance from immediate events. In early 2011, when the quarterly economic growth rates began sliding from 9.2 per cent to eight per cent and then lower, the Sensex was at 20,500. Today, more than two-and-a-half years later, the quarterly growth rate has averaged a miserable 4.6 per cent for the last three quarters. But the Sensex is at 19,270 - barely six per cent lower than what it was at the start of 2011. By any normal yardstick, that would suggest market resilience. Indeed, the price-earnings ratio on the Indian market is now within five per cent of its 10-year average, lower than in Indonesia, about the same as in Thailand and Malaysia, and significantly better than in China. So, contrary to what the headlines might make you think, the market is holding up pretty well in the face of a lot of bad news.

What about the foreign institutional investors (FIIs)? Well, what about them? They pumped $71 billion into India's stock market in the four-year period 2009-2012, and a further $15 billion till May this year. Since then, over three months, they have pulled out all of $3.8 billion. That may be a worrying change of direction when the country needs dollars to keep flowing in, but it is not by any means a flight of capital. Just as we have not seen a real crash that matches the crash in economic growth rates, we have not really seen capital flight. It would seem that people have not yet given up on the India story, or more money would have gone out by now. The debt market, driven by simpler dynamics, has seen $9 billion go out, but that is a different story.

The stock market gets disproportionate attention because the human eye tends to focus on what moves, compared to what is stationary. Since stock prices move up and down every day, excited commentary matches the bustle even though it often signifies very little. So, while the market is important in many ways, it is useful to remember that the market attracts only one per cent of annual household savings. In comparison, just under a half of individual savings goes into bank accounts. About a quarter goes into life insurance. Something like one-tenth goes into a long-term savings option like the provident fund. As for "non-financial" savings, money has gone substantially into real estate and recently into gold. For most people, the stock market is someone else's playground.

It makes sense then to focus on the sectors where the money really goes. The new pension law will help put more money into long-term savings. Then, bank deposits have been seeing slower growth even as the money going into gold has trebled from one per cent of GDP to three per cent. One result is that, over the past three years (till end-August), fresh loans have equalled 90 per cent of new deposits. That is an unsustainable ratio when the Reserve Bank of India's reserve requirements should leave banks with no more than 73 per cent of new deposits for giving out as new loans. Conclusion: the demand for fresh credit is outstripping the inflow of deposits that can be lent out. But if you want more bank deposits, you have to do something about the money going into gold. If people prefer gold to bank deposits, blame sustained fiscal profligacy that has eroded faith in the value of the currency. Control government borrowings, and many things (including currency value and interest rates) will fall into place.