Recession In India Coming Soon?
Recession In India Coming Soon?
The global economy is going through turmoil, with major economies such as the US, UK, Europe, and China facing an economic slowdown. After a very long time, advanced economies like the US and Europe are struggling with inflation.
While inflation remains the core issue of the Recession, various other factors, such as the Russia-Ukraine war, the aftermath of Covid-19, and growing instability among countries, have fueled inflation rates across the globe and created waves of negative sentiments in stock markets across the world. Many European central banks, such as the US Federal Reserve and the UK's Bank of England, are raising their interest rates substantially.
In this globalized era, the economies of the world are interconnected to each other, and in a globalized economy, no country suffers alone, which is a reason why inflation in major developed economies of the world is a cause of concern for an economic recession in India as well.
Recession means the decline in economic activities of a country for a prolonged period of time that hampers the economic growth of a country.
Let's dig deeper into what are the reasons for this global inflation and potential economic recession in India in 2022 and its positive and negative effects on the Indian industry. Again the issue which is at the helm is Inflation which is the major driving force for the slowdown of the global economy, so it can be said that inflation and recession are linked with each other. Usually, inflation is the problem of developing and growing countries, but today it has become a global issue.
So Here, the main question arises is an economic recession coming in India? For that, we first must understand the root cause of the problem – Inflation.
What is Inflation?
Inflation is defined as the long-term increase in the price level of goods and services. In other words, if you see an increase in the prices of goods and services over a prolonged period of time, then it can be referred to as inflation. Inflation leads to erosion of purchasing power which means that today for Rs.10, you can buy goods and services which you could have earlier bought at Rs.8.
Recession in India will result in Indian exports becoming more expensive in foreign markets since they are more expensive than goods from other countries, thus will become uncompetitive in the foreign market. Inflation and recession adversely affect those at the bottom of the food chain - the poor and inflation have the ability to push those people toward poverty.
How Inflation can be good for an Economy
Although moderate inflation is beneficial for developing countries. It is the difference between the gap in the demand for a particular commodity and its supply. If the demand for a good is high and its supply is not sufficient to meet the demand, then more people will be in contention to buy that particular item. In this case, it is logical that the price of that commodity will go up to make it affordable to fewer people in order to ease the pressure on the supply of that good.
In developing countries, inflation can be good for the economy, giving an indication that demand is greater than supply hence manufacturing will have to increase in order to enhance supply. Therefore, a high inflation rate can also be a reason for economic growth as well.
How Inflation works?
Let’s assume that there are only 3 apples in a market whose price is Rs.10 each per set, and there are only 5 people in this economy. Out of the 5 people, 3 have Rs.12 each, whereas the rest of the two have Rs.8 each.
In this case, there is a demand for only three apples as the remaining 2 people cannot afford the apples. Here, the apples will be sold, and the price of the apples will also remain stable, but if the money supply increases and the remaining 2 people also now have Rs 10 each, then, in this case, there will be a demand for 5 apples, whereas in the market there are only 3 apples.
Now because of the increase in demand, the price of the 3 apples will be increased to Rs.12 each so that apples again become unaffordable for some so that the demand again becomes equal to the supply.
It is the same as if the interest rate on cars is increased, then it will lead to less demand for cars as people will either be content with small cars or will shift to purchasing two-wheelers for themselves. This will keep the price of cars in check and will also lead to a decrease in pollution levels as more people will now shift to public transport.
Role of Central Banks in curbing Inflation
To curb inflation, central banks reduce the money supply, and this work is done by increasing the interest rates of taking loans. If loans are expensive, then few people will be able to take loans, due to which people will have less money available to spend.
Central banks control their policy rates which is called the repo rate in India. This is the policy rate at which the majority of the major economies of the world, including the US and Europe, are increasing. In India, RBI plays a major role in curbing inflation rate.
Factors that led to Recession
1). Fast Economic Recovery
In the Eurozone, inflation has reached a record 9.9%, whereas, in the US, it has been lingering between 8-9% in the past few months. One of the reasons for the sharp inflation in this unexpectedly fast economic recovery in the US after a successful covid vaccination drive has led to a sudden increase in consumer demand and fastened economic growth.
The government pumped billions of dollars into the economy during the lockdown, due to which the demand raised above supply resulting in inflation. But the supply could not match pace with the increase in supply, which increased the inflation to record levels.
2). Russia-Ukraine war
In addition, the prolonged Russia-Ukraine war has played a major role in the soaring inflation. Ukraine supplies 10% of the global wheat export, and it has resulted in rising food inflation across the world. Many countries have put sanctions on Russia due to the war, which has halted the supply of various goods and services, which has directly resulted in Inflation.
3). Increase In Nominal Wage Rate
From the second half of 2020 only, the demand for labor has increased acutely in the US, which has resulted in an increase in the nominal wage rate, and the firms are passing this higher labor cost to the consumers in the form of higher product prices.
4). Inflation in China
China is the largest supplier of consumer and corporate goods in the US, which has also played its part in increasing inflation in the US, and there have been frequent lockdowns in China because of their zero covid policy, which has increased inflation in China. Inflation in the intermediate production of China simply means inflation in the finished product of the US. Get to know how in June 2022, US inflation hit a record 9% and how it impacted the Indian economy, which could form a base to understand what could be the impact of the US recession in the future as well.
Impact of the US Recession in India
1). Indian IT sector could get affected?
The USA is the largest market for the Indian IT industry. In FY 2022, 61.4% of Infosys revenue came from the USA and 25.2% from Europe. USA is responsible for 52% of the total revenue share of the Indian MNC Wipro, and for TCS also their 52% of the total revenue stems from North America, which leads to many tech companies depending on the US Major Companies Firing Employees.
So, it becomes quite evident that India’s IT majors are pretty much affected by the recession in the US and Europe. The economic situation of the US and Europe will directly affect the profitability of these companies.
According to a report by Bloomberg, there is a 38% chance that the US economy is heading toward a recession. and because of this, both companies and investors have gone into a safe mode which can also result in an upcoming recession in India by 2022 end or in the following year.
Though, some stocks can be termed as long-term and recession-proof because of their strong fundamentals and popularity. Their stronghold reflects in their share price as they are the top 5 most expensive shares in India and can be a good buy in times of market slowdown.
If it happens, RBI will be coerced into increasing the current inflation rate in India. Although the current inflation rate in India is around 6-7%, it could increase in the future, given the economic slowdown globally.
2). Higher costs of import goods
Rising inflation in the US will push their federal bank to increase their interest rates which will affect the Indian companies who have been using the USA as a source of funds because historically, market rates in these countries have been comparatively lower than in India.
The high cost of funds would lead to low profitability, which will eventually mean less revenue and fewer service exports from India. Increased interest rates in the USA mean increasing inflation in India because India imports many raw materials from USA and Europe, which will also push the RBI to tighten its monetary policy and increase its interest rates.
If RBI does not resort to money tightening, then the imported goods will lead to an increase in inflation in the Indian economy, which will affect India’s entrepreneurship opportunities as well.
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Outward flow of Foreign Investments from the Indian Stock Market
The increased interest rates could also result in the outflow of investments from India to the USA. Generally, in advanced countries such as the US, the interest rates are lower in developing countries like India, and therefore, American investors consider it better to invest in India due to higher interest rates.
If interest rates start rising in the US, investors would prefer to invest their money in a safer economy like the US, not in a relatively riskier economy like India. Hence, an increase in the interest rates in the US could be the reason for investment outflow from the Indian stock market.
To counter the upcoming recession in India and to keep India attractive for foreign capital, RBI will increase its interest rates further, which could result in inflation and recession in India and a higher cost of funds for Indian companies.
According to the IMF, World Bank, and other institutions, the global economy will face hardships for the next two years and could bring an economic slowdown India will also face the chain effects of a global recession but, at the same time, a slowing US economy could result in the focus of the world shifting towards emerging markets such as India, and over time the Indian Rupee will show its true potential which is steady growth.
In the short run, any negative news surrounding the US markets could also affect the Indian stock market, but in the long run, the Indian stock market is not in line with the global stock market, and in the long run, economies and stock markets with strong fundamentals and resilience will bounce back on to the track of growth hence there won’t be much effect of recession on employment in India.