Why India is bucking global economic slowdown trends

Economic growth – strong rather than stalling

India’s growth rate in the second quarter was 7.8% year-on-year, significantly higher than the 6.1% growth rate in the first quarter. This will make India the world’s fastest growing major economy, putting it on track for full-year growth of 7%.

India’s growth momentum stands in stark contrast to the rest of the Asia-Pacific region, where economic growth has generally slowed. This is a response to the slowdown in the West and, more importantly, in China in recent months, coupled with weak economic growth. The global semiconductor industry is an important driver for many regional economies.

Growth is primarily driven by domestic demand and is driven by capital investment. This also bodes well for future growth, with investments likely to increase India’s chances of non-inflationary growth. Net exports haven’t helped much, but lower imports have helped offset the decline in exports.

Contribution to GDP growth (pp)

Source: CEIC, ING

Household consumption has also remained strong due to improvements in the labor market, lower unemployment rates, higher labor participation rates, and lower inflation rates. Government spending does not contribute anything directly to growth, but targeted spending does indirectly, as we will see shortly.

India’s unemployment rate and labor force

Source: CEIC, ING

Fiscal deficit reduction focuses on growth

This year’s Union Budget set a fiscal deficit reduction target that was described by some as “not ambitious”, lowering the deficit target from 6.4% of GDP to 5.9% of GDP in the financial year ending March 2023.

It might be fairer to describe the budget as a growth-oriented budget, with a number of capital spending measures aimed at strengthening India’s infrastructure, intended to “pack” private business spending. In that respect, judging from the GDP trends so far this year, it appears to have been successful.

India’s sovereign credit rating is at BBB-, hovering at the edge of investment grade, leaving the bond market vulnerable to downgrade risk. These concerns appear to have been allayed by the recent announcement that Indian government bonds will be included in global bond indexes.

India’s fiscal deficit is on track so far

Source: CEIC, ING

Looking at India’s progress in gradually reducing its fiscal deficit and debt-to-GDP ratio, it appears to be mostly on track this year, but it may be a little further along.

To reach a deficit ratio of 5.9%, India’s cumulative deficit will need to be around Rs 16.9 trillion by March next year, assuming real GDP growth of around 7% and inflation averaging around 4%. So far, monthly deficit figures have remained close to the expected ‘on target’ trajectory needed to achieve this, with debt-to-GDP ratios remaining high but likely to moderate. There appears to be little risk of a credit rating downgrade based on this. At the end of this fiscal year, it was approximately 81.5%, down from 83.8% in the previous year.

External balance and INR

One thing that has been surprising so far this year is the resilience of the rupee. Since October 2022, the INR has remained in a very narrow range of around 80.5-83.0 against the US dollar. In recent months, that range has been shrinking around 82.5. To put this in perspective, this makes INR the third best performing currency in the APAC region year-to-date, significantly outperforming other APAC FX currencies. For example, the Japanese yen is 11% cheaper. The Chinese yuan depreciated by 5.84% against the US dollar.

Policy interest rate spread for USD and foreign exchange performance

Source: CEIC, ING

Stable INR thanks to RBI

India’s economy has also outperformed many of its peers, but this currency performance is not entirely attributable to structural factors, although the positive spread of policy rates relative to US rates is clearly helping. Rather, we attribute the stability of the currency throughout the year primarily to the intervention of the Reserve Bank of India (RBI).

Typically, the INR follows the inflation differential and tends to maintain a roughly constant real exchange rate.

In fact, there were times this year when India’s inflation rate was lower than that of the United States, but that may have certainly coincided with the strength of the currency. Recently, however, apart from a relatively short period a few months ago, India’s inflation rate has once again risen sharply, while the US inflation rate has remained stable at just over 3%, and the Indian rupee’s resilience has increased. is becoming increasingly questionable and less popular.

All this said, there seems to be no shortage of ammunition if the central bank decides it wants to continue supporting the Indian rupee. Import coverage has not only remained well above the six-month period typically considered the minimum requirement for emerging market countries, but has also recently been on the rise.

FX Reserve Import Cover

Source: CEIC, ING

trade balance worsened

This healthy foreign exchange reserve is not due to the trading sector, which is currently running a deficit, but by historical standards it is not a particularly large deficit (the current account deficit is only about 2% of GDP). .

Like the rest of the region, India’s exports have declined from their 2021 peak, but the decline has been fairly gradual, and India may have benefited from two factors. First, direct trade between India and China is much more limited than with other Asian countries. The other thing is that India is not yet a big player in the semiconductor sector, which has been particularly hard hit this year, and is now hitting its trough.

However, India’s total export performance compared to the rest of the region is modest and ranks at the bottom in terms of relative year-on-year growth. There seem to be several reasons for this. The first relates to jewelery exports, which are normally very strong, but this year have been very weak. This constitutes a large part of India’s export basket and accounted for about 8.5% of total exports in 2022. India is one of the largest markets for Indian jewellery, after the US, so this is one area where weak demand in China could have a major impact. Demand has also been hit hard by high inflation rates in the state.

Indian exports by type

Source: CEIC, ING

The second is a ban on the export of agricultural products. Exports of rice other than basmati rice were banned on July 20, following last year’s ban on broken white rice. Sugar exports after the current export season ends on September 30 will also add to export concerns, as sugar exports this season are capped at 6.1 million tonnes. Sugar exports have already almost stopped.

Indian agricultural exports

Source: CEIC, ING

We can look to the financial accounts of the balance of payments as helping to straighten the circle between continued central bank monetary support, weak exports, and stable foreign exchange reserves.

India’s financial balance (2nd quarter moving average)

Source: CEIC, ING

Incorporating government bonds into global indexes to provide further support

In addition to consistent inflows of foreign direct investments, the ‘other investments’ category accounts for the bulk of inflows into Indian financial accounts. This category primarily consists of US and global deposit receipts (ADRs and GDRs), indicating that foreign stock listings have been a reliable source of foreign exchange receipts over the past 18 months.

As you can imagine, portfolio flows are more volatile, while direct investments and “other” investments should be fairly stable. This is a relief when a currency has been artificially moved away from where the market wants it to be for some time. The trade situation looks difficult.

Looking ahead, JPMorgan’s recent announcement that it will include Indian government bonds in its emerging market bond index from June 28 next year will support further inflows into portfolios. The move is long-awaited, having been postponed several times in recent years. Estimates vary, but it is believed that India’s government bonds will likely attract between $25 billion and $40 billion worth of foreign capital inflows as a result.

It remains to be seen whether JPMorgan’s decision will prompt other companies such as FTSE Russell to follow suit. In any case, this decision should not only support the INR but also reduce the spread of government bonds over US Treasuries and lower corporate bond rates.

That said, the US inflation rate is likely to decline over the next year, and India’s inflation rate is likely to stabilize at around 4% to 4.5%, so the INR will eventually decline nominally at an annual rate of about 2%. expected to return to the trend. After benefiting in the short term from changes in market expectations for US Federal Reserve interest rates that factor in further easing in 2024/25, while maintaining a stable real exchange rate.

The currency is currently supported in a narrow range and other regional currencies have not seen any clear depreciation, so the scope for INR appreciation is limited compared to other currencies if the USD eventually weakens. If this move materializes, we can expect the Australian dollar and Korean won to rise in value.

Inflation and the Reserve Bank of India

Earlier this year, India’s inflation rate had fallen within the Reserve Bank of India’s inflation target range of 2-6%, and it looked as if there was room to ease policy rates by the end of the year. However, inflation, which once again exceeded the RBI’s target, has now started to decline again as the erratic monsoon hit agriculture and pushed up seasonal food prices significantly.

We expect inflation to continue to fall in the second half of this year as the government protects households from rising energy prices, with inflation returning to within the inflation target range as early as next month and reaching the midpoint of the inflation rate. It is possible to approach the point. The goal was achieved with the data release in October.

India’s inflation and interest rate outlook

Source: CEIC, ING

This would leave real interest rates elevated and provide a strong case for some rate cuts in early 2024. India’s policy interest rate spread with the US is 6.5% or 100 basis points, which is contributing to supporting the Indian rupee. This is a larger spread than its Asian peers. The main risk to our interest rate outlook is if the US economy continues to defy logic rather than slowing and the US dollar remains strong.


India is currently experiencing very solid economic growth, but there is not much in the current set of data to suggest that this situation should not continue. Rapidly rising inflation means that immediate easing of policy rates is probably not on the table, and in fact this probably won’t happen until next year. Having said that, despite the obvious direct support to the INR from the Reserve Bank of India, the support for the currency through foreign direct investment and stock listings will likely cause the INR to outperform its peers in any case. and will receive further boost in the future. Indian government bonds are expected to be included in the global bond index next year. This also comes as some other regional peers have deliberately tightened policy despite improving inflation performance to offset currency depreciation, leading to an increase in the risk of eventual easing. It will also remove obstacles.

The economy as a whole returns to near 7% growth in 2023, inflation returns to within the RBI’s target range, and the seeds are sown for some easing of policy rates in 2024, which could lead to another year of This will support strong growth.

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