Brexit may not be all bad news for India

Published on:

11 Aug 2016, 12:00 am

The frayed nerves have calmed; the markets have stabilised; and investor attention has turned from the fallout of Brexit to the flight path of the Monsoon clouds over India and the fairly good probability of the long awaited GST Bill finally going through the Rajya Sabha and becoming law. More than a month after the unexpected vote in favour of Brexit, economists, analysts and policy planners are unanimous that that Britain's shock decision to exit from the European Union (EU) is unlikely to cause any major long-term damage to the Indian economy as it is still very dependent on domestic consumption, which is mostly insulated from global events. Now that they have had time to crunch all the numbers, most analysts feel that the Brexit fallout, which may cause some short term volatility in the stock and currency markets will, by and large, be beneficial for the Indian economy. However - and it is important to add this caveat - some sectors of the Indian economy will feel the pinch. The macro-economic impact The British exit from the EU will almost certainly delay the recovery of the global economy, which is passing through a very stressful time, and trigger a slowdown in many countries. This will cap the recent rising trend in crude prices - which have firmed up almost 80 per cent from the historic lows they hit earlier this year - and also keep commodity prices low. Since every $1 drop in the price of a barrel of oil lowers India's crude imports by $1 billion, low oil prices will keep India's current account and fiscal deficits in check and also help cap inflation. This will give room to finance minister Arun Jaitley to stick to his promise of capping the fiscal deficit this year at 3.5 per cent even though the deficit has touched 43 per cent of the target in the first two months of 2016-17. Singapore-based brokerage firm DBS has said in a report: “For this year, we don't see a fiscal slippage...” The savings on imports as a result of lower crude and commodity prices will help cushion the expected shock of $20 billion FCNR deposits being redeemed at the end of this year as well as any outflow of hot money as a result of mini-shocks flowing from the aftermath of the Brexit turmoil. Fiscal discipline and low inflation as a result of these macro factors and a good monsoon are expected to allow the Reserve Bank of India enough space to lower the policy rate by another 25-50 basis points (bps; 100 bps = 1 percentage point) by the end of the year. Global liquidity glut The world over, central bankers are preparing to open the liquidity tap to counter the impact of Brexit and the continuing economic slowdown. Governor Mark Carney of the Bank of England has prepared a war chest of £250 billion to keep the wheels of English commerce greased. Then, banks in UK are believed to have more than £600 billion of high-quality liquid assets. This will ensure that UK is not starved of liquidity anytime soon. Other central banks, such as the US Federal Reserve, the European Central Bank and the Bank of Japan are also expected to act quickly to ease liquidity to ensure that the global economic system does not suffer a shock from Brexit. India well prepared Reacting to the Brexit result, Finance Minister Arun Jaitley said in a statement: “We are well prepared to deal with the short and medium term consequences of Brexit. Our macro-economic fundamentals are sound with a very comfortable external position, a rock-solid commitment to fiscal discipline, and declining inflation. Our immediate and medium-term firewalls are solid too in the form of a healthy reserve position. As investors look around the world for safe havens in these turbulent times, India stands out both in terms of stability and of growth (which is) further improving in the wake of the good monsoons that are now moving well across India.” “The Indian economy has good fundamentals along with low short-term external debt and sizeable foreign reserves,” added Reserve Bank of India Governor Raghuram Rajan. Stable India to attract investors According to a Crisil report released shortly after the Brexit vote, “The good thing is that over the medium term, subdued global outlook - more so in Europe after Brexit - could divert investments to India because of stable outlook and higher-growth prospects compared with other emerging markets. It is very likely that the world will once again be awash with stimuli-driven liquidity and monetary policies will remain accommodative for even longer than previously anticipated.” The impact on the rupee The British pound may lose some value in the immediate aftermath of the Brexit vote, leading to a stronger dollar and this could cause some short-term volatility in the value of the Indian currency. A lot will depend on how the currencies of India's peers and competitors react to the global volatility. “India's trade competitiveness with the UK will not just depend on how rupee behaves versus the pound, but also on what happens to the exchange rate of India's competitors. If their currencies also appreciate against the pound, India s relative competitiveness will not be impacted much. India's trade competitiveness will also be shaped by the movement on domestic costs and productivity,” the Crisil report says.

No significant effect on exports Analysts do not see Brexit having any significant impact on India's exports, which have shown a small rise in June after falling for 18 successive months. The UK accounts for small portion - barely 3 per cent - of India's total merchandise exports. Then, total bilateral trade with the UK makes up only about 2 per cent of India's international trade. “Over the medium term, India's exports, especially in consumer-oriented sectors (auto components, textiles, leather and footwear and precious stones and metals, which together comprise nearly 45 per cent of exports to the UK), and also in services, will depend on the severity of slowdown in the UK and ructions in the exchange rate,” Crisil says.

India is better placed than many other nations to face the turmoil generated by Brexit but the uncertainty may linger.-Nirmala Sitharaman, Indian commerce minister

The vulnerable sectors

“Companies in sectors such as automobiles, auto components, information technology services, textiles, pharmaceuticals, gems and jewellery, leather, and leather products are most vulnerable to changes in demand and currency value,” the Crisil report says. Then, metals companies will also have to bear the brunt of the expected slowdown in global demand and the resulting fall in prices. And investors will do well to avoid companies with large foreign debt exposures as intermittent volatility in the rupee flowing from the fine print of the protracted exit negotiations between Britain the EU as well as other international shocks could hit their bottomlines.

The London beachhead

The real concern over the longer term is the impact the Brexit vote will have on Indian companies that have or are planning to set up shop in London as an entry point to the EU. Several Indian IT, pharmaceuticals, automobile and metals companies have a presence in the UK. Indian companies, in fact, are the third largest foreign investor in the UK. It is not clear yet how the Brexit referendum result will affect their operations across Europe. So, the negotiations between Brussels and Westminster will be critical for these companies. If the British government cannot safeguard London's position as the world's financial hub, then compliance costs will rise significantly for Indian companies that currently maintain their European head offices in the British capital.

New beginnings, new relationships

David Cameron's exit as British Prime Minister means India has lost a strong ally at the high table of global affairs. Prime Minister Narendra Modi, who has struck a good personal friendship with him, will now have to establish fresh ties with his Theresa May, Cameron's successor and a lot will depend on whether they can hit it off. India's bilateral trade with the UK is at 14.2 billion pounds. There is a school of thought that feels London could give incentives to improve trade ties and this could help Indian companies.

Collateral damage

Britain's exit from EU could cause some collateral damage to multilateral trade blocs. If Britain's example is followed by other states such as the Netherlands, Italy, Denmark and France, it could bring into question the very existence of the common European market. If EU unravels, it could have a domino effect on other trading blocs around the world.

Brexit a process, not an event

The negotiations to disentangle the ties that bind London to the EU will be long and winding and the process will take at least three to four years at the very least. Policy analysts have warned that there may be intermittent shocks to the global economic order as the two sides try to drive a hard bargain. The path is uncertain and filled with potential potholes and booby traps. That is why, experts are cautioning that Brexit should not be treated as an event but a process.

Uncertainty may linger

India has reacted cautiously to the vote. Speaking exclusively to India Incorporated, India's commerce minister, Nirmala Sitharaman

said: “The finance ministry, the Chief Economic Advisor, the Niti Aayog and other concerned ministries have been monitoring the situation even before the outcome of the referendum was announced. We are watching the situation very closely and foresee short-term and medium-term volatility. India is better placed than many other nations to face the turmoil generated by Brexit but the uncertainty may linger.”

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