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Thematic Research: India Strategy - The case of global populism, slower growth and easy monetary policy

In this note we analyze how the advent of protectionist stance on issues like welfare, nationalism and populism has impacted economic dynamics across the world. As the said protectionist stance has led to a pre-mature slowdown in growth, we expect the latter to drive global monetary policy decisions and the fiscal math (in India’s case) in CY19 and probably also in CY20. Consequently, these issues will be key determinants for capital allocation and portfolio decisions in near term. We also believe that the wave of populism and protectionism is unlikely to die out in the near term and will continue to define policy outcomes across economies.  Consequently, we expect global economic landscape to move into earlier unchartered territories.

Rising income inequality across leading global economies spurs protectionist and populist measures: The rise in income inequality has been one of the key reasons for the surge in protectionist and populist movements across the world. Few examples outlining this paradigm shift will include the US China trade war, Brexit, Yellow vest protestors in France, Five star movement in Italy, rise of euro-skepticism throughout Eurozone, rise of nationalist sentiment in India, the election of Jair Bolsonaro in Brazil, etc. The wave of populism seems to have affected right and left wings alike, across the world.

Weak global trade leads to coherent slowdown in global growth, interestingly, US economy is still far from overheating: This brings us to our second global observation where we have seen coordinated growth slowdown across the countries, as reflected from weak GDP and PMI data and flattening/inverting of yield curves, over the last few months. Interestingly, unemployment statistics and inflation across the globe remain favorable – indicating that current slowdown is not an overheating-led slowdown (where economy gets stretched after reaching its full potential, leading to a demand pull inflation). The current slowdown has come in before growth could reach its full potential – and the protectionist wave leading to slowing global trade is to be blamed for this.

Times for globally easy monetary policy are back: The coherent slowdown in global growth is sort of a deja-vu where global central banks, once again, in a coordinated manner, are expected to provide easy liquidity to support growth and recovery. This has already been indicated by Fed in their recent policy meeting (and markets are already hoping for a rate cut) and ECB (through premature announcement of  targeted longer-term refinancing operations (TLTRO)-III for Sep 2019). While Fed has relatively more room to maneuver compared to ECB (leaving it with limited choices), we still see overall limited scope for liquidity expansion (implying reversal of tightening by Fed over last few years).

Length of easy policy time to be event dependent: The synchronized global monetary policy easing could take two paths, depending upon outcome of geo-political events: a) We expect to see synchronized accommodative policy stance across central banks in CY19. The time period of easy policy should be limited provided geopolitical outcome for US-China trade war and Brexit are favorable. b) An adverse outcome could cause the synchronized easing to continue well into CY20. Global liquidity easing bodes well for emerging economies and India stands to benefit from this too.  

Interestingly, India is also in a peculiar situation caught amidst global populism and slowdown. While both INC and BJP are indulging in some level of populist moves. However, an escalation of the same could turn risky for the economy’s fiscal dynamics, which is our key concern.

Capital allocation decisions for India: A surge in fiscal risks could impact effective capital allocation over next two years and have a bearing on portfolio decisions. Even though global easy liquidity would bode well for Indian markets, we perceive two scenarios that could emerge for the Indian economy:

• Status quo on the fiscal side: In such a scenario, corporate banks would to do well in FY20 (benefitting from receding NPAs and crowding out of bond markets, which will push corporates to borrow more from banks) and investment cycle would continue with an early recovery, as observed in FY19 (however this could take time), in our view.

·       Populist narrative takes over fiscal math: This scenario could cause investments to take a back seat and consumption to flourish on dole outs and sector weights would be impacted accordingly.​