A woman
walks past a house where ‘Vote Leave’ boards are displayed in Redcar, north
east England. (Photo credit: SCOTT HEPPELL/AFP/Getty Images)
A woman walks past a house where ‘Vote Leave’ boards are displayed in Redcar, north east England. (Photo credit: SCOTT HEPPELL/AFP/Getty Images) 
Business

What India Must Do To Limit Brexit Fallout

BySeetha

India may still be a magnet for foreign direct investment but what if investment activity slumps globally?

It is also time to focus seriously on improving the competitiveness of Indian exports

Exactly what and how much impact will Brexit have on the Indian economy? Finance Minister Arun Jaitley and Reserve Bank of India governor Raghuram Rajan were quick to soothe the markets immediately after Brexit happened.

Economic affairs secretary Shaktikanta Das has been all over the media assuring that the impact will be marginal, that India will be quicker than most countries to recover, that it will continue to draw in foreign investment. The real economy, he has said, will not be affected hugely.

Morgan Stanley backs Das’ position. In its Asia economics report, ‘How will policy-makers respond to UK vote to leave EU?’, its research team notes that India will be relatively protected against any adverse impact, since it is not facing headwinds from the 3D challenges (high debt, weakening demographics and disinflation) and is also relatively less exposed to trade.

In a medium stress scenario, it says, Brexit could lower India’s GDP growth by 0.1 percentage points in 2016 and 0.2 percentage points in 2017. In a high stress scenario, the decline could be 0.3 and 0.6 percentage points in 2016 and 2017 respectively.

Singapore, South Korea and Malaysia stand to lose more.

But it would be foolish to let this lull everyone into a sense of comfort. Any likely negative impact could come with a lag, but come it will.

India may still be a magnet for foreign portfolio and direct investment but what if investment activity slumps globally? And it is the real economy that will get affected.

Look at what happened in global markets immediately following Brexit; according to this Reuters report , a massive $2.08 trillion was shaved off global equity markets and this is labelled worse than the 2008 meltdown and even the Black Monday crash of 1987.

The impact of the 2008 crash on individual economies was felt even after the crisis was over.

Brexit, remember, is not a one-shot affair. The process is going to be long and painful, there will be a lot of uncertainties in the meantime and businesses are sure to postpone decisions and investments. This could lead either the much-needed recovery in the world economy getting delayed or the current slowdown getting worse.

The Morgan Stanley report says as much: “The bigger concern...  is the potential lasting impact on business uncertainty, corporate investment decisions and the attendant impact on domestic demand in Europe, which then translates through weaker global trade growth. . .”

Exports may be just 20 percent of GDP, and exports to Britain may be just three percent of total exports, but it is important to look at what India sells to that country.

According to a Crisil note on the impact of Brexit, 45 percent of India’s exports to the UK comprises auto components, textiles, leather and footwear and precious stones and metals.

Now these are all employment-intensive sectors and even a small dip in business can have significant impact. Indeed, this report warns that IT spending in Britain could fall by 10 percent in 2016 and 15 percent in 2017. 

Europe, too, could see cutbacks and, after the US, it is the second biggest market for India’s IT industry.

Besides, what if there is a demand slump in Europe as well, following from Brexit? The European Union accounts for 17 percent of India’s total exports. These are real worries and India cannot afford a demand slowdown in external markets when exports are only just beginning to look up after more than a year of straight decline.

Ambit Capital flags a likely devaluation of the yuan by China, which will further affect India’s exports.

But the problem will not arise from bilateral trade relations between India and Britain and the European Union. The demand slump could affect other economies as well.

Already there are reports of falling oil prices and this is certain to affect demand in oil exporting countries. The world economy is already suffering on account of the fall in oil and commodity prices, a further decline will exacerbate this; India cannot remain insulated from this larger fallout. It has just started diversifying its markets and the share of these countries in exports was growing, relative to the US and Europe. What’s more, growth in remittances from oil exporting countries could start declining.

So what does India need to do to limit this adverse impact? Clearly the focus has to be on domestic policy action to stimulate domestic demand. It is also time to focus seriously on improving the competitiveness of Indian exports. A fair amount is being done; a lot more needs to be done. There is no time to lose.