There are good reasons for some cheer. On February 28, 2002, estimates of GDP growth in the US for the last quarter of 2001 were revised sharply upwards from 0.4 per cent to 1.4 per cent, after a contraction in the third quarter. The recession of 2001 appeared to be over. Recovery in the closing months of 2001, driven entirely by sharp expansion in personal consumption, was fuelled by an unprecedented 8.6 per cent expansion in expenditure on durable goods. In January 2002, retail sales contracted 0.3 per cent, but in February recovered and were higher than January levels, though not by as much as what a market hungry for news of a quick strong recovery wished. Spending on technology, including software, had shown early signs of some recovery in late 2001, as noted by the US Fed on December 11, 2001. The trend seems to be showing signs of further consolidation in early 2002.
The high voltage Enron-Andersen fiasco and, in the glare of the consequent media spotlight, the revelations relating to the bankruptcy of Global Crossing, had through the winter raised the possibility of serious erosion in valuation of major companies. Even General Electric shares lost ground for a few days. Any contagion that might have arisen from the Enron affair, and the cloud over its auditor Andersen, has fortunately been contained. The pro-active steps taken by government and regulators to review rules and improve disclosure standards, in the context of a widely shared consensus to alter practices to prevent recurrence of such situations, helped the process of containment.
In India, as we have remarked in this column several times recently, the economy is showing distinct signs of picking up. Export growth was surprisingly strong at 18 per cent in January 2002 and non-oil, non-bullion imports have been picking up from July 2001 onwards, notably in capital goods and industrial intermediates, surely indicative of some recovery in domestic demand. Provisional estimates of industrial output for January 2002 are 3.2 per cent, which given the consistent upward bias of revision in previous months, is likely to represent a final growth figure of close to 4 per cent. After three years, foreign direct investment is also on the upswing. For the nine month period April-December 2001, FDI inflows aggregated $2.6 billion, as much as 57 per cent higher than in the previous year. Portfolio investment inflows have also grown by 17 per cent. While the rate of inflation, especially in terms of producer prices, is at its lowest levels by the standards of our historical experience, it is still over 3 percentage points higher than that in the US, and thus should give us some pause.
Now, for the bad news. Since November 2001, crude oil prices (Brent) have hovered just below the $20 per barrel mark. On March 1, 2002, the day after fourth quarter GDP estimates for the US were out, Brent jumped $1/bbl, reflecting a change in market sentiment on demand pick-up. In subsequent days, news that US plans were afoot to militarily dislodge the Iraqi government pushed prices up by another $3/bbl, to over $24/bbl. While there was a mild weakening towards the end of the week, the prospect of higher prices for much of 2002 is in clear evidence, with Opec reportedly wanting to go back to the $22-28/bbl band. The possibility of military hostilities against Iraq sometime after summer 2002, and attendant disruptions in supply, is likely in the context of a recovering US economy (and perhaps a European one too) to push prices towards, or even above the upper end of the band.
So, what would that mean for India? Every $1/bbl increase in crude prices means a 50 to 60 paise per litre increase in the cost of refined products. In the post-administered price regime, the reality of a $4/bbl increase, and the prospect of another $4/bbl increase in coming months, has the potential of translating into a significant rise in retail prices. That would of course fuel inflation once again, just as it would increase the burden of subsidies on kerosene and LPG on the government exchequer ? even without the ?rollback? that seems to be a near certainty. Besides a larger oil import bill, war in West Asia would also increase uncertainties on the foreign exchange front, so short-term rates could harden. And given the fairly flat yield curve that we have today, longer term rates will have little option but to move up.
Add to all of this, our very own home-grown discord. The possibility of continued sectarian disturbances, encouraged by the elements that alone stand to profit from the increase in polarisation, confusion and anger, can more than neutralise the good news on the economic front, and of course, further compound the risks inherent in external developments. These two very tangible event risks make for an outlook for 2002 that is rather murky.
Saumitra Chaudhuri is economic advisor to ICRA (Investment Information and Credit Rating Agency) and editor of Money and Finance, the ICRA bulletin