US recession fears hyped, but any slowdown may impact India's economy

The jobs data has triggered fears of a recession in the United States but many feel that these apprehensions are exaggerated. Instead, the US economy may slow down or have a shallow recession later in the current year, they believe.

The US Federal Reserve, the central bank, on Monday dispelled the speculation that the economy was in a recessionary freefall. It said rate cuts could be on cards to avoid such a situation.

A recession occurs when there are two straight quarters of decline in gross domestic product (GDP). However, in a broader sense, a recession happens when there is a widespread and prolonged downturn over a few months.

The unemployment rate rose in July for a fourth straight month to 4.3 per cent in the US, nearly a full percentage-point above its January 2023 low and the highest since October 2021. However, many believe that unlike past recessions, the rate rose due to immigration of labour and slow response of the economy to such demand.

In April, the IMF had forecast the US economy to grow 2.7 per cent in 2024 against 2.5 per cent in the previous year. The US economy had contracted 2.2 per cent in 2020 as activities slowed down due to Covid-19-induced lockdowns, not only in that country but the world at large. The economy rose 5.8 per cent next year on the low base, but the growth slowed down to 1.9 per cent in 2022.

The US economy expanded 2.8 per cent in the second quarter and 1.4 per cent in the first quarter of 2024.

Whatever may be the end result, if the US economy indeed slows down, India cannot escape the dampening effects. However, there may be some positive impact, including on the import bill and the rupee value against the dollar.

The US is one of the biggest destinations for goods exports from India, constituting 17-19 per cent of the total outbound shipments during the past five years. Engineering goods, gems and jewellery, pharmaceuticals and readymade garments are the dominating basket of exports from India.

However, imports from that country are less, accounting for 6-7.5 per cent of the total inbound shipments to India for the past five years. Minerals, pearls, precious stones, nuclear reactors, and boilers constitute the main basket. As such, the US is one of the few countries with which India enjoys trade surplus.

Similarly, India has a trade surplus in services trade with the US too. But this is not a rarity since India is a net exporter of services for all countries taken together. As such, any slowdown in the US economy would impact this surplus in goods and services trade.

 

Besides, this would have an indirect impact on India as well since the world would also be shaken by the happenings in the largest economy, depending on the intensity of such a slowdown. However, goods exports from India had just 1.8 per cent share in the world's market in 2023, while services exports constituted 4.6 per cent.

At a post-monetary policy committee meeting on Thursday, Reserve Bank of India (RBI) governor Shaktikanta Das said the recent data shows US unemployment should not be taken as a sign of recession there.

“At this point, it's premature to talk about a recession in the US,” he said. Das added that the US economy is doing quite well, citing the economic growth data in the first two quarters of 2024.

Ranen Banerjee, the government sector leader at PwC India, says while it may be premature to conclude that the US is headed for a recession, a slowdown there was always expected with the hawkish monetary policy of the Fed, and it was intentional.

India’s GDP growth forecast has already been moderated to be in the range of 6.5-7 per cent in the Economic Survey. “Now it is more likely that we will be having a growth rate in that range, which is lower than the 7.2 per cent estimates by RBI,” Banerjee says.

Global slowdown expectations have a sobering impact on crude oil prices and this is a positive for India as it eases pressure on the oil import bill, Banerjee says. With a cut in interest rates by the Fed and relatively stronger growth rate in India, capital flows are unlikely to be very negatively impacted.

“While exchange rate has come under pressure, index-based bond flows and lower oil import bills are likely to support the rupee and it should come back in the range of 83-84, and stay there with some volatility, mitigating actions by the RBI,” Banerjee says.

The rupee closed 83.97 against the dollar on Thursday.

Anil K Sood, co-founder at the Hyderabad-based Institute for Advanced Studies in Complex Choices, expects the US to slow down once the government consumption rate moderates and there is a slowdown in private investment.

“At this stage, the probability of slowing down in both these components is low,” he says.

If the US does slow down, he expects American financial investors to start looking at investment opportunities elsewhere and India does provide a reasonable opportunity.

“On the other hand, I expect FDI flows to be low in any case, if we continue to grow at the current pace. We can become the most-preferred destination for long-term capital only if we are able to accelerate growth beyond the current level,” Sood points out.

He also anticipates a US slowdown to result in lower commodity prices (oil, etc.), reducing pressure on India’s trade balances.

As for services, particularly IT services, there has already been a major reduction in employment levels through massive layoffs in India as well as the US.

“It is unlikely that there will be a large-scale layoff in the near future,” Sood says.

In the recent past, the US saw two recession periods. One of them lasted from December 2007 to June 2009, triggered by the sub-prime crisis in that country and aggravated by the collapse of financial institutions such as Fannie Mae, Freddie Mac and Lehman Brothers. The second was relatively less prolonged from February 2020 to April 2020, triggered by the outbreak of Covid-19.

The impact of the first recession on India was severe. The country was also impacted by the contagion that affected nations linked with India in terms of trade, capital flows, etc. India’s economic growth rate slowed down to 3.3 per cent during 2008-09 compared to 7.7 per cent in the previous year. However, it recovered to 7.9 per cent in 2009-10. Exports from India did not have immediate impact since orders were booked in advance.

Capital inflows, including foreign direct investment (FDI), foreign portfolio investments (FPI), and external commercial borrowings (ECBs), declined to $9.1 billion during 2008-09 from $108 billion in 2007-08. These recovered to $53.6 billion in 2009-10. As such, the rupee depreciated 14.2 per cent to 45.9 against the dollar in 2008-09.

The broader recession was for a limited period of two months — March-April, 2020 — in the world's biggest economy, according to the US Business Cycle Dating Committee. However, the economy witnessed two straight quarters of decline in GDP — January-March and April-June — that year.

The impact on India during 2020-21 was due to overall global slowdown as well as lockdowns imposed to prevent the spread of Covid.

India’s GDP declined 5.8 per cent during 2020-21 from a growth rate of 3.9 per cent in 2019-20. However, it recovered to a growth rate of 9.7 per cent during 2020-21 but the GDP was 2.1 per cent lower than that in the pre-Covid period of 2019-20 in real terms. However, during 2023-24, real GDP stood 20 per cent higher than that in 2019-20, according to the latest Economic Survey. The economy rose 8.2 per cent in 2023-24.

Besides, there was a decline in merchandise exports by 6.9 per cent, merchandise imports by 16.9 per cent, services exports by 4.3 per cent, and services imports by 11.1 per cent during 2020-21.

However, net FDI remained almost intact at $43 billion, while net portfolio investments rose to $36.1 billion during 2020-21 against withdrawal of $3 billion in the previous year.

The net effect, despite higher FPI inflows, was that the rupee depreciated 4.7 per cent against the dollar during 2020-21.