Indian equity markets had started to run up even before the Bharatiya Janata Party was voted to power in 2014. The hope was that the Narendra Modi-led government would reverse the perceived policy paralysis of the previous government and put the economy on a stronger macroeconomic path.
Four years later, the government’s economic scorecard is mixed. But the equity market’s verdict on the Modi government has been positive. The benchmark NSE Nifty 50 Index has gained 42 percent over these four years, well ahead of the 10 percent gains for the MSCI Emerging Market Index.
To be sure, markets move for a variety of reasons, from the global backdrop to domestic macros and fundamentals of individual asset classes. But there are a few reasons why the Indian markets continue to view the Modi-led government as a positive.
For one, markets love political stability. Over the last four years, perhaps fortuitously, political stability has come with macroeconomic stability. That’s given enough comfort to investors to value the Indian markets at 19 times 1-year forward earnings despite the lack of earnings growth.
Equity markets have also given points to the government for taking on tough decisions like the implementation of the Goods and Services Tax, deregulation of fuel prices and real estate reforms, among others. On the ground, while the government has not managed to revive private investment in a big way, it has compensated for that with government spending across sectors like railways, road and ports.
That’s not to say that the equity markets are all praises for the Modi government.
Unprecedented and unexplained moves like demonetisation led to significant volatility in the Indian markets. The recent concerns about India’s macroeconomic conditions has also highlighted that the government benefited significantly from low oil prices and may have lost the opportunity to convert that into lasting gains.
Other disappointments over the past four years include the inability to resolve issues around public sector banks and the ailing power sector.
Rupee: Outperforming Peers
The Indian currency has depreciated significantly over the last four years but the fall has been lower than that of peer currencies.
The Indian rupee has depreciated 14 percent over the four-year tenure of the Modi government. In comparison, the Indonesian rupiah has fallen 18 percent and the Malaysian ringgit has slipped 19 percent.
A large chunk of the depreciation in the currency has been driven by global factors. Besides, given the inflation differentials between India and developed markets, the rupee should trade with a depreciating bias. If anything, it has been argued that the Indian currency has not depreciated enough and become overvalued over the past few years, making the country’s exports un-competitive.
The more recent fall in the Indian rupee, however, has been driven by the perception of India’s weakening macro economic conditions and volatility in the interest rates market. For the year to date, the Indian currency has lost more than 6 percent and is among the worst performers in the Asian region.
Also Read: Why Is The Indian Rupee Looking Nervous?
Rates: Lower But Rising
Interest rates, both policy rates and market rates, in the Indian economy have declined over the last four years. A number of factors have played into this.
The RBI’s decision to get tough on inflation and convince the government to move towards an inflation targeting framework is prime among them. A period of moderate oil prices also helped in inflation control, allowing rates to come down.
The government did it, in part, by moderating the pace at which minimum support prices for agricultural crops was rising.
However, a key benefit for rates flowed through as a result of the fiscal benefits from lower oil prices. This also allowed the fiscal deficit to remain in check, which kept the government’s market borrowings at comfortable levels.
Rates have now started to rise and the government is partly to blame for this. Volatility in indirect tax revenues forced the government to borrow more from the market in the financial year 2017-18. The fiscal slippage last year has been followed by concerns that the 3.3 percent fiscal deficit target for FY19 may also be a challenge. These concerns, coming at a time when India’s weak government-owned banks are reluctant participants in the bond markets, have been a key reason behind the rise in market rates. With inflation rising, policy rate hikes may follow as well.