Impact of Global Financial Crisis on Indian Economy
S. Lalitha Mani
Lecturer in Commerce
Head of Department in Commerce
Dr. S.N.S. Rajalakshmi College of Arts and Science
The financial crisis has been erupted in a comprehensive manner on Wall Street; there was some premature triumphalism among Indian policymakers and media persons. It has been argued that India would be relatively immune to this crisis, because of the "strong fundamentals" of the economy and the supposedly well-regulated banking system. These effects have been most marked among those developing countries where the foreign ownership of banks has been already well advanced, and when US-style financial sectors with the merging of banking and investment functions have been created. The recent crash in the Sensex was not simply an indicator of the impact of international contagion. There have been warning signals and signs of fragility in Indian finance for some time now, and these are likely to be compounded by trends in the real economy. So far the global financial crisis has had three major impacts on the Indian economy: (i) Economic Downturn (ii) Exposure of banks (iii) Domestic policy. The paper also explains (i) India: confronting the global financial crisis (ii) India: turning crisis into opportunity. ECONOMIC DOWNTURN:-
After a long spell of growth, the Indian economy were experiencing a downturn. Industrial growth has been faltering, inflation remains at double-digit levels, the current account deficit is widening, foreign exchange reserves are depleting and the rupee is depreciating. The last two features can also be directly related to the current international crisis. The most immediate effect of that crisis on India has been an outflow of foreign institutional investment from the equity market. Foreign institutional investors, who need to retrench assets in order to cover losses in their home countries and were seeking havens of safety in an uncertain environment, have become major sellers in Indian markets. In 2007-08, net FII inflows into India amounted to $20.3 billion. As compared with this, they pulled out $11.1 billion during the first nine-and-a-half months of calendar year 2008, of which $8.3 billion occurred over the first six-and-a-half months of financial year 2008-09 (April 1 to October 16). This has had two effects: in the stock market and in the currency market.
Given the importance of FII investment in driving Indian stock markets and the fact that cumulative investments by FIIs stood at $66.5 billion at the beginning of this calendar year, the pullout triggered a collapse in stock prices. As a result, the Sensex fell from its closing peak of 20,873 on January 8, 2008, to less than 10,000 by October 17, 2008 (Chart 1). Falling rupee
In addition, this withdrawal by the FIIs led to a sharp depreciation of the rupee. Between January 1 and October 16, 2008, the RBI reference rate for the rupee fell by nearly 25 per cent, even relative to a weak currency like the dollar, from Rs 39.20 to the dollar to Rs 48.86 (Chart 2). This was despite the sale of dollars by the RBI, which was reflected in a decline of $25.8 billion in its foreign currency assets between the end of March 2008 and October 3, 2008. It could be argued that the $275 billion the RBI still has in its kitty is adequate to stall and reverse any further depreciation if needed. But given the sudden exit by the FIIs, the RBI is clearly not keen to deplete its reserves too fast and risk a foreign exchange crisis. The result has been the observed sharp depreciation of the rupee. While this depreciation may be good for India's exports that are adversely affected by the slowdown in global markets, it is not so good for those who have accumulated foreign exchange payment commitments. Nor does it assist the Government's effort to rein in inflation. EXPOSURE OF BANKS:
A second route...
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