India can be in for a much rockier 2017-18 than market anticipates

Gobalisation may now be giving way to new trends of isolationism and protectionism

A week is proverbially a long time in politics but political trends can last for decades. For example, globalisation started in the 1980s. But, globalisation may now be giving way to new trends of isolationism and protectionism, allied to racism in many cases.
 
Donald Trump rode to power on this new wave and Britain is struggling after the vote for Brexit. However, voters in Holland, Austria and now France have opted to stay with a centrist, pro-globalisation position.
 
Nevertheless, though the centrist Emmanuel Macron beat back the challenge of Marine Le Pen in the French presidential elections, it was the first time the racist eurosceptic Front Nationale (FN) made it to the second round. The FN took a third of the vote in Round II. If the FN wins a significant number of seats in parliamentary elections in June, they will push their Frexit agenda with greater fervour.

 

Another European Union (EU) nation, Italy could go to elections soon. Political commentators say that “Quitaly” may be a campaign platform. A dislike for immigrants is definitely a common factor for all the Eurosceptic parties across the EU and breakup is a distinct possibility.
 
If the EU does break-up, globalisation is dead. The USA has a president who wants to restrict immigration and bring manufacturing back. If the EU turns protectionist, or breaks up, there will be no push to maintain globalisation.
 
Globalisation has brought many benefits. Starting in the 1980s, trade barriers came down. Capital started flowing across borders. it became easier to locate manufacturing wherever labour was cheap. Even immigration or long-term residency for skilled labour became easier.

 
That led to unprecedented poverty reduction. South Korea and Taiwan became First World economies in one generation. China, Malaysia, Indonesia and Thailand all saw rapid growth. Even India, which came late to the party, saw strong acceleration of growth.
 
The new trend could last for an indefinite period. It’s an open question if any given political entity that’s outright protectionist/isolationist will gain power in Europe. But there is clearly substantial political support for such sentiments across many nations. Even centrist political formations will be tempted to pander to protectionism.
 
Even if the EU stays intact, more protectionism could lead to a reduction in cross-border Foreign Direct Investment (FDI) flows. FDI comes in when multi-national companies wish to exploit a large domestic market (as in India or China) or to set up a cheaper facility for export. The second rationale is true for manufacturing across the Asian Tigers and China and true for information technology (IT)services and Pharma R&D in India.

 
India’s Gross Domestic Product (GDP) is closely entwined with trade -- over half of Indian GDP has a trade component. It’s hard to see exports making a serious recovery if protectionism rises. Although a two-year trend of falling exports was reversed in Q4, (Jan-Mar 2017), sustaining this will be hard. The IT Services industry which provides a large chunk of “Invisibles”, is in the doldrums due to tighter visa regimes and rapid technological change. Pharma could be hit hard as USA raises barriers.
 
The domestic economy is also due to see disruptions. The Goods and Services Tax (GST) will ultimately promote efficiency in that it will help to create a common market across India. But it will cause chaos for at least six months before it settles down. Rates will need to be tweaked and officers will have to learn to administer a radically different new system. Six months is an optimisic estimate as GST took two-three fiscals to settle down in EU nations. 

 
Despite apparently decent corporate results, and strong macro-economic growth estimates, the supporting data suggests that the Indian economy is not doing particularly well. Job growth has been zero; bank credit growth has been near-zero; The Index of Industrial Production indicates stagnation; growth in Gross Fixed Capital Formation is the lowest in a decade at least. There has been decent growth in some segments of automobile sales and in air passengers but rail freight statistics and rail passengers are stagnating.
 
India could be in for a much rockier 2017-18 than the market anticipates. It won’t be all bad certainly but it will be very disruptive and unpredictable. Markets are notoriously bad at discounting such new trends.