It is increasingly clear that the impact of the financial sector crisis in the US is spilling into the real economy and it is not unreasonable to forecast a longish recession in the US, given the severity of the meltdown. The impact of a protracted slowdown in the US will be felt abroad as well especially by its major trading partners. India will certainly be affected—the US is one of our major trade and investment partners. Also, unlike the slowdown which followed the burst dotcom bubble that only impacted the technology sector, the impact of the present economic downturn would be felt across a wide range of sectors including IT, gems and jewellery and other merchandise exports.
Any slowdown in the US hits Indian IT badly—60% of India’s exports of IT/ITES are to the US. And around 60% of the companies operating in the IT/ITES sector have been working for American financial corporations like Goldman Sachs, Washington Mutual, Citigroup, Bank of America, Morgan Stanley and Lehman Brothers. Indian software and outsourcing firms earn roughly half their revenue from the US. Nasscom has already lowered the growth rate target from 30% to 21-24% for this year. Other than IT, one can expect an adverse impact on the gems and jewellery segment. The recent slowdown has already robbed the Surat diamond industry off its glitter—there has already been an estimated 15% to 20% fall in demand for diamonds. The US is the largest market for diamonds, gemstones and jewellery, constituting 40% of the total gems and jewellery exports from India last year. Overall merchandise exports to the US are likely to take a hit as well. India exports more than 10% of its total merchandise exports to the US alone. Although growth in merchandise exports was positive at 6.37% between April-May 2007 and April-May 2008, it is now likely to slow down. Still, one must keep in mind that exports account for only around 13% of India’s GDP, of which exports to the US are a fraction. The US is also the largest foreign investor in India, if one excludes Mauritius’s large investments which are mostly investments from the US and elsewhere routed through the tiny island nation. Now investments in key sectors including telecom, food processing, electronics and financial services that form the core recepient sector of US FDI are likely to slowdown. Of course, India is still a large domestic market and if the monetary policy orthodoxy is abandoned, the economy can grow well. Expect the US slowdown to impact but not determine the course of India’s growth.