Refer to this earlier post to
understand the background of this post: http://sheriasacademy.blogspot.in/2018/04/gk-understanding-us-china-trade-war.html
If the trade war were to
intensify — and that’s a big if — there is a possibility that a diminished US-China trade engagement could
have positive results for countries such as Brazil and India from a trade
perspective, at least in the short run. In case of soybean, for instance, one of the key items in the list, there
could be a cascading impact in terms of openings
for India to enter other markets, according to the Soybean Processors Association
of India.
The bulk of China’s annual
soybean import of around 100 million tonnes is for domestic consumption; the
rest is used in the manufacture of soybean oil and meal for export. If the levy hits China’s import, exports
could be dented, a space that India could potentially fill to meet the demands
from other countries.
But in the long term, a full-fledged trade war is bad news. It
invariably leads to a higher
inflationary and low growth scenario. Inflation is generally good for assets such as gold, while
having a negative impact on currency and some sectors in the equity market.
Bigger worry: interest rates
A greater worry for India could be the indirect impact — the
potential cascading inflationary impact
of the decision in the US itself. Within the US domestic economy, higher tariffs on a range of imported
products escalate the threat of higher consumer prices, caused by importers
passing on their increased costs of raw material. This could force the Federal Reserve to frontload its
interest rate glide path — raise rates faster than it would have done
otherwise.
An increase in interest rates in the US has implications for emerging
economies such as India, both for the equity and debt markets. The Fed is
so far on track to raise interest rates at least two times this year; market
analysts, however, say Fed Chair Jerome Powell could potentially raise rates
faster to prevent the US economy from overheating.
The Fed is also slated to pursue
its scheduled reversal of the easy money
policy of the last decade. The central bank had said in September 2017 that
it would start shrinking its balance sheet
by selling treasury bonds and mortgage-backed securities that it
accumulated after the Lehman Brothers crash in 2008, in order to inject
liquidity in the market.
From the current $20 billion a
month ($12 billion of treasury securities that are being allowed to mature each
month without being replaced, alongside another $8 billion of mortgage-backed
securities), the sale of such securities is slated to go up in the future,
according to details available from the January 30-31 meeting of the US Federal
Open Market Committee. With this, the Fed
would gradually wind down the $4 trillion in holdings that it acquired during
the phase of quantitative easing.
Even a minor disruption in US
financial markets can have major implications for India. The three external
risk factors — higher tariffs, rising
interest rates, and elevated bond sales — come at a time when the domestic
banking system is grappling with a renewed
stress of bad loans. The Indian economy, especially financial markets, will
need to brace for significant volatility
and stress from the combined effects of global and domestic challenges.
Outflow of money
For India, the impact of
inflation action by the Fed will be significant through the channel of interest
rates. Yields in US markets have been
inching up since mid-2016, and have risen from a low of around 1.5% per annum
to over 2.8% now. The yield on benchmark US bonds hovered around 5% in 2007, a
year before the start of the global recession that forced central banks of
developed countries to cut interest rates to near-zero. While a reversal to
pre-2008 levels will only be gradual, the rise in yields could be faster than
anticipated.
The Indian government securities market has been falling for the past seven
months on cues of rising US yields and projections of increased local inflation.
Rising interest rates in the US
could mean a potentially rough ride for the India’s equity market. Higher US rates will lead to outflows from
emerging market bonds and equities as American investors will look to chase
higher returns in their home. While a surge in domestic inflows is a
reassuring factor for Indian equities, higher
interest rates do make the option of investors borrowing cheap money in the US
and investing in Indian equities significantly less attractive.
Credit: Indian Express Explained
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