Ruchir Sharma On India’s 3 Big Economic Concerns For 2018

Ruchir Sharma On India’s 3 Big Economic Concerns For 2018

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More than one wise man has cautioned that making predictions is difficult, especially about the future. Still, it is that time of the year when I give it a shot, keeping in mind some basic principles of forecasting. For one, whenever we are most certain any trend is going to last, that is exactly when it is most likely to shift. Linear thinking is the bane of forecasting. Similarly, it is always a mistake to imagine that one factor (even one as big as Donald Trump) will shape events, or to let ideological views shape your forecasts.

I can’t seem to internalise these lessons deeply enough. When I review the top 10 trends I presented last year, the misses show that I violated some of my own basic forecasting principles. Like many others, I was struck by the mania around Trump and thought the new US President would have an important impact. But Trump was not able to get much done and mattered a lot less than expected, at least on economic issues.

On the flip side, some of my more accurate predictions relied on filtering out political noise and not getting caught up by single-factor thinking. So many commentators missed seeing the turnaround in Europe’s economic fortunes because they were too focused on the rise of right-wing nationalists. Such fears turned out to be overblown and other factors, from a healthier banking sector to just pent-up demand after a long downturn, helped Europe stage a sharp economic rebound.

As in life, when it comes to forecasting, there are no certainties, only probabilities. So with that lesson in mind, here are ten of the most important trends that I think have a high probability of playing out in 2018:

1) Global Growth Will Peak

It’s been a good run for the world economy. Global economic growth accelerated to 3.3 per cent in 2017, which was the best year for the global economy since the global financial crisis of 2008, with low inflation underpinning rapid growth and few economies suffering a recession. This coming year may be just as good, but it may also represent a peak as global economy hits its natural speed limits.

Between 1950 and 2008, global growth averaged nearly 4 per cent a year, more than twice as fast over the previous 50 years, and many times faster than any extended period going back centuries. This economic boom was driven, however, largely by a population boom — a surge in the number of new workers entering the workforce — which is now over.

Post-war growth in the working age population peaked at 2.3 per cent between the 1970s and 2008, but has plummeted to one per cent now, and it is expected to continue falling as women have fewer and fewer children worldwide. There are now nearly 40 major countries that are suffering negative growth in their working age population, and the effects of this baby bust are inexorable. Fewer workers, less growth.

If there is an upside to this in the short term, it is that fewer workers also means less unemployment. The average unemployment rate for the major developed economies has fallen from around 9 per cent in 2008 to 5.5 per cent, nearing the lowest level since the records begin roughly 40 years ago. Unfortunately, one of the few countries that has not joined the employment boom is India, thanks in part to its labour policies.

2) Boom Shaka Laka In Europe

One of the biggest surprises of 2017 was the recovery in Europe and it is likely to continue this year. Most economists expected Europe to sputter along at a 1 per cent pace, instead it is expected to clock in at 2.3 per cent for the full year. Business confidence is at a high for this decade and economic growth in the current quarter may come in close to 3 per cent.

The right-wing, anti-Europe nationalists who were expected to rise at the polls instead faltered across the continent. Far from turning to nationalism and away from union, polls show that a growing share of the people in every major country — except Italy — has a favourable view of the European Union.

Moreover, while most of Europe has seen a fall in unemployment, there is still labour market slack in many major economies — which means there is room to grow. One of the key drivers now is the banking system — which even Italy cured of bad loans after the Eurozone crisis. Banks are in good shape, ready to lend. This is the lesson for Indian policy-makers as well: for the economy to grow rapidly, the banking sector needs to be fixed first.

3) Good Economics May Not Be Good Politics

Many politicians have assumed that “it’s the economy, stupid,” but this no longer applies in many countries. Around the world, economies are reviving, the stock markets are rising, but approval ratings for politicians are falling. My team tracks approval ratings in some 20 major economies, and the median approval rating across all countries is near an all-time low since our data begins about a decade ago. In addition, political honeymoons have been growing shorter and shorter — meaning the high approval many leaders enjoy upon winning an election decay into disapproval faster and faster.

While this is a recent phenomenon in many parts of the developed world, in India the norm has long been to just throw-the-bums-out. My study of some 188 elections covering both national and state elections in the 20 largest states going back to 1980 shows that on average, the incumbent party loses 66 per cent of the time. The startling part is that even if the state shows improved economic growth in the full term of the incumbent, the government still loses 61 per cent of the time. If growth tops the miracle rate of 8 per cent, the incumbent also loses 50 per cent of the time. High economic growth is simply not enough to win elections in India.

4) The Everything Bubble

Bubbles are hardly unusual. They have a centuries-long history of hitting markets from tulips to stocks, bonds, housing and many other assets. What is really unusual about the current global bubble is that it is hitting everything at once — from stocks to art, fine wine and bitcoin. Driven by record low interest rates and a surge of global liquidity, my composite index of stock, bond and housing valuations is at a record high, higher than 2000 or 2007.

The result is that while the total worldwide value of stocks and bonds was about equal to the size of the global economy in 1980, it is now 3.5 times higher. Traditionally, economists have seen markets as a reflection of underlying economic trends, but now they are large enough to dictate those trends. The tail could wag the dog: a disruption in markets could come back to bite the real economy. As the market goes up, people feel richer and save less, which means they are not as well-prepared for a market-induced economic shock if it comes.

Bubbles also seem to be forming quicker than they did in the past. In 2010, a man paid 10,000 bitcoins to buy two pizzas, now those same bitcoins are worth roughly $150 million, an extraordinarily rapid appreciation. And all of this has been driven by central bankers, who by some measures have never before kept interest rates so low for such an extended period. With so much easy money sloshing around, it can drive up prices with unusual speed.

5) Peak Calm In The Stock Markets

In fact, central bank policies have convinced many investors that nothing can go wrong, all but ending the volatility and frequent corrections that normally roil markets. In the US, the average market correction in any given year is just over 10 per cent; in 2017, the biggest correction was a mere 3 per cent. In India, the average correction has been 18 per cent; in 2017, the biggest was 4 per cent. The problem with this record calm is that it goes against the volatile nature of capitalism and markets, and is thus not likely to last. Interest rates are beginning to rise, which could undermine investors’ current impulse to buy immediately on every dip, and thus bring back volatility.

6) Tech: As Good As It Gets

Tech now rules the world to an unnatural degree. Seven of the 10 biggest companies in the world by market cap are in technology including all of the top five, led by Apple, now worth nearly a trillion dollars. Together, the five leaders are worth $3.5 trillion, or considerably more than the entire stock market in India. China is similarly top-heavy with tech, as both Tencent and Alibaba hover around half a trillion in value. This degree of concentration is a concern, because markets this skewed toward one sector tend not to stay that way indefinitely. A rebalancing is in order.

7) Big Dominates Like Never Before

It’s not only tech, where size now matters like never before. Big firms are more dominant in many sectors. The percentage of market sectors in which the top three firms’ expanded market share has risen in Europe and the US from 40 per cent between 2001 and 2007 to 65 per cent between 2007 and 2016. These are part of the superstar economies in which the bigger you are, the better your odds of getting bigger still.

India shows a very similar tendency: the market share of the top three firms runs as high as 84 per cent in toothpaste, 82 per cent in shampoo, 75 per cent in biscuits and 72 per cent in cars. The risk for the giants is that the sheer size and power will provoke a backlash, and more efforts to break up monopolies and oligopolies. Indeed this move is already beginning, particularly against the tech giants.

8) India’s Three Concerns

India’s economy has been looking more and more stable in recent years, but there are signs now that the improvements are done and the backsliding has begun, particularly on three key fundamentals.

The current account deficit, which includes trade flows, had fallen from 5 per cent of GDP in 2013 to 1 per cent last year, when it started rising again — owing in part to high oil prices and weak Indian exports.

The government budget deficit fell from 5 per cent in 2013 to 3.5 per cent last year, but it is now set to rise in this election year as politicians succumb to pressure to ramp up farm loan waivers and other giveaways.

Inflation came down from a high of 10 per cent in 2013 to just 2 per cent last year, but it is picking up now as well. Moreover, while the improvement largely reflected the global decline in inflation, of late, inflation is picking up faster in India than in other countries, a worrying sign.

These three concerns do not suggest India is heading in to trouble, but simply that the best is behind us when it comes to some key macroeconomic fundamentals.

9) Indian Companies Best In Class

Looking at companies worth at least a billion dollars, India’s collection is unsurpassed for excellence anywhere in the world. India not only has an unusually high number this size — 289. They are unusually deep in high performers: 21 per cent have recorded average earnings growth over 15 per cent for the last five years and also had a similar return on equity during that period. The comparable share in China is just 11 per cent, in the UK and Brazil it is 9 per cent, and in the United States just 8 per cent. Put another way, 51 per cent of India’s billion dollar companies have doubled in value over the last five years, compared to 51 per cent in China, 33 per cent in the UK, 19 per cent in Brazil and 8 per cent in the United States. This is why many experienced investors in India ignore all the noise around the country’s tumultuous politics and focus on finding the best of the sterling corporate class.

10) Peak Distraction

It’s no secret we are all increasingly distracted by that sleek smartphone in our pocket. Between 2012 and 2016, the average number of hours the typical Indian smartphone owner spent on his or her device rose from 2 to 4 — the second-highest for any major country in the world. Only in Brazil did the number rise even higher, from 2 to 4.5. In the United States, the number rose from 1.5 to 2.4.

While there are many benefits to having a smartphone, this is a classic case of a strength taken too far becoming a weakness. Social research increasingly confirms what we all know intuitively, or by bitter experience at the dinner table: smart phones can harm relationships. A few studies suggest that the presence of a smart phone, even if it is not being used, can undermine the quality of a relationship.

Economists too are studying smart phone distractions, and some now believe that they are a hidden reason for weak productivity growth worldwide. Tech is supposed to make us more productive; instead, smartphones may in many cases be proving counterproductive. One recent report suggests the average person looks at a smartphone 80 times a day.

The good news is that the early signs of a backlash seem to be brewing. Even tech columnists are writing about strategies for attacking smartphone addiction, and books on Buddhism as a non-digital option are making their way to the top of best-seller lists. Digital detox may become the new Yoga, which will make at least a subset of our contact list significantly less annoying, and more engaged.