The two major events that seem to have rocked this quarter are 1- the
falling oil prices and 2- Japan's recession. One would only naturally
ask if these events are related to each other or if one is a consequence
of the other. We shall attempt to ascertain just that by looking at
some related aspects of these events. We shall also attempt to
understand the potential impact of these scenarios on India and its
economy.
The
implications for India are many and quite varied at that, but before we
plunge into the effects on India, lets go over some of the attributes
that have been responsible for the present state of affairs shall we? in
particular we shall be looking at Japan's recession, the shale oil
productions in the US and the woes of the OPEC and GCC in the face of
diving oil prices.
Recession in Japan
Japan has been in a state of continuous low growth and deflation for quite a while now. In 1985 Japan along with five other governments signed the 'plaza accord' with the US to depreciate the USD in relation with the Japanese Yen (JPY); this step backfired almost instantly due to Japan's trade restrictions specifically concerning its imports.
Japan's
internal debt rose to a staggering 2+ times that of it's GDP. In April
2014 Prime Minister Shinzo Abe came about with a policy to increase the
taxes in an attempt to reduce the government Debt; this may have
triggered the current recession that has hit Japan. There are many that
believe this recession will be short lived and that @ 2% levels, the
inflation will actually stimulate consumption demands.
But Japan
had some weird asset allocations in this matter; the country has
witnessed near zero interest rate for quite some time now, and ideally,
established wisdom would suggest that this would foster a rise in
consumption. But Japan has an ageing workforce and quite the retiree
population and although the stock market has seen some recovery, it
hasn't been enough to translate into any actual wealth upshot or
increased consumption. For over two decades this has been the plight of
the stock markets and as a result the investor sentiments have been
indisposed.
How
exactly does this impact India and her economy as of Q4 2014? We shall
come to that, but before we do, let us examine another important news
that seem to be rocking the financial world lately.
Crude Oil Prices, Shale Oil and the OPEC
Oil,
the one thing that drives prices and investors all around the world.
it's an international 'Financial Product' in it's crude form isn't it?
The prices have dropped to an all time low of less than $83 per barrel ! The
implications of this are just tremendous and they affect everyone all
around the world. I know your heads are just spinning at all the
possibilities that this would open up and indeed it should be. But let's
also examine how this drop in prices came about to be yeah?
It
had its start somewhere in China's decrease in import of this
hydrocarbon. Being one of the largest importers of crude, a significant
drop in consumption levels by this nation could spell disaster for the
oil revenue dependent countries. Then on top of this already growing
turbulence, Japan slumps into a recession and the USA which has so far
been a prominent member among the oil importing countries has shifted
away to the indigenous shale oil production. As a result Oil prices that
had been at $100+ a barrel suddenly fell to $80 per barrel.
Under
such circumstances there are only two things that the oil revenue
dependent governments can possibly do that conventional wisdom would
suggest. 1- Cut down on production. 2- Reduce the price of Crude oil.
But as the scenario stands, the OPEC headed by Saudia have decided not
to cut down on production and instead continue with the current output;
while leaving the prices to the influence of the market forces of Demand
and Supply. Now, although this will have a toll on the economy of some
countries in the Middle East, nations like Saudia are well buffered by
their cash reserves to survive this slump for sometime. Other countries
who are not so well buffered have decided to take on economic
reformation to battle the falling oil prices and reduce their dependence
on the revenue from the Gulf Oil. (refer to the below for more
information on the state of affairs in the Middle East)
The
newly discovered shale oil reserves in the US and it's production
within the US soil has led to a drop in demand for the Arabian oil. The
US had long been one of the biggest importer of crude. This drop in
imports combined with the impact from China and Japan have caused quite a
bit of turbulence within the GCC and the OPEC countries. 'Brent Crude'
fell to $80 a barrel. Current trends however indicate that the Middle
East hopes to combat the US shale oil production with sustained low
prices. This is a contrasting irony in itself, as the fear of one would
stop the other from breaking boundaries. Shale oil is expensive to
produce and the identified reserves are not large enough to justify low
cost production. Therefore the approach of the OPEC at keeping the
prices of Oil at $80/barrel range seems to be doing the trick for now.
As the very idea of expanding shale oil production will keep the crude
oil prices in check and the very idea of sustained low prices in the
crude market is enough to put off expanding on the shale oil reserves.
For countries like Iran and Russia, this $80 per barrel is very bad
business indeed. They would require a sustained price of $110 per barrel
to balance out their Balance of Payments; but this is of course good
news for India.
Impact on the Indian Economy
So finally we reach the cherry to the pudding, India is in a unique position to reap the benefits of this unprecedented economic turmoil, at least while it lasts. Japan's recession means a devaluation of the JPY; now although it means that India will be in no position to receive the $35Mm FDI inflow that PM Modi and Shinzo Abe had agreed to, it does not mean that we are at the loosing end.
The devalued JPY will mean
that it is an attractive means for Investors to buy foreign assets and
risky ones at that, in other countries. India in this regard hold the
unique advantage in the Asian markets. With China and Japan out of the
picture and the rest of the prospective nations weakening amid inflation
or turmoil; making India the ideal market to invest in. The market is
large enough to absorb the capital inflow that will come in and
receptive of the FDI inflow as well. Although the debt market in India
has been attractive in terms of return, it still has a long way to go
before the average middle class can begin to invest in it. For now the
sentiments run high on savings deposits and low risk investments
including insurance products. This is also one of the reason why the
economy has remained quite strong and shielded from the impact of the
market turmoil that has gripped most of the other Asian markets.
Although
it has its own faults and demerits, from an investor standpoint, the
inflation is comparatively low and the common household savings are
still equity averse. But 2015 could just prove to be the best year for
India; if you get what I mean.
The trends in the Oil production
seem to favor India as well. Low cost of crude oil means a decrease in
the price of Petrol and Diesel. Saudia has every plan to regain the
Asian markets by offering attractive incentives; low prices will also
see a rise in China's import of oil that had diminished (which was the
very reason for the start of this cycle) India being in the middle just
has a comparative advantage without even having asked for it. This also
seems to comply with Saudi Arabia's decision to leave the price of oil
to the forces of demand and supply. Increase in consumption will
eventually see a rise in the oil prices and the prices will stabilize at
a higher margin than it is now. In the mean while India can squeeze out
the best of this opportunity with proper planning and execution.
The
ambitions plan to propel investment to 40% of GDP just seems more
feasible now. As far as India is concerned this seems to be a blessing
in disguise; but of course this does not come without its own risks. The
scenario could turn upside down any moment. Indian economists are now
closely monitoring the scenario and contemplating all possible
situations. But as i would like to believe, 2015 seems very bright for
the India's economy.
