The brighter side of greek tragedy
As the global financial community pulls up its socks for bracing another impending crisis, not everybody is putting on glum faces. There could be some surprise winners from what is being envisaged as the second contagion following the Lehman Brothers bloodbath in September 2008.
It is, of course, still too early to assume that financial markets will nosedive the way they did roughly twenty months ago. But given the urgency with which the International Monetary Fund (IMF) and the European Union (EU) have stepped in to rescue Greece and the Euro area, the fear among financial and country authorities regarding the Greek ?tragedy? snowballing into a global tragedy can hardly be overlooked. The $1-trillion lifeline offered to the struggling EU economies to stay afloat is the biggest rescue plan the world has seen since the G20 bailout package following the global meltdown.
The fragile club of European economies does not include only Greece. Spain, Portugal and Ireland are in serious trouble as well. All these economies are experiencing the pitfalls of managing their economic systems in a profligate manner. In short, they have borrowed much more than their capacities to pay with the result that they now face the risk of defaulting on their obligations.
The implications of countries defaulting on their debt obligations are onerous. In the present instance, for example, Greece?s failure to honour its commitments will mean significant chunks of the balance sheets of its creditors turning crimson. A large part of Greek debts are held by European banks and financial institutions. The latter, in turn, have raised resources from various nooks and crannies of the densely integrated global financial network. If Greece buckles under pressure, then a fairly long chain of institutions can follow suit with the Greek tragedy assuming truly enormous proportions.
Casualties will be even more if the rest of the struggling Euro Economies follow suit.
But why does gloom in Europe does not necessarily mean so elsewhere?
In a world where financial transactions are dominated by those that work on the basis of expected rate of returns, trouble in one segment can generate unexpected windfall gains elsewhere. There is no doubt that a globalised financial world will initially experience ripples irrespective of the co-ordinates of the shock. Thus, as Greek bleeds white, the tremors are being felt in distant Asia as well. The initial impact of the prospect of Greece defaulting on its debt, some of its neighbours following suit, and the resultant cascading contagion, will throw investors into a state of panic. As their investment plans go awry, they start responding in a knee-jerk fashion, usually indulging first in partial profit-booking, and then panic selling. As this happens in a collective manner, markets all over the world slip into shock modes.
Once the initial mayhem cedes, and battered markets slowly start gathering their wits, investors also begin to think rationally. The intrinsic impulse of working on the basis of rate of returns forces them to look closely at markets capable of yielding higher returns in a medium-term scenario. Obviously, these can hardly be markets where fundamentals are at rock-bottom. Indeed, much as the current bailout package resulted in stock markets roaring back to life, the cheer and euphoria might well be short-lived. With fundamentals of several European economies being where they are, stacking of funds may just delay the inevitable. Clearly, economies on ?oxygen? such as Greece and Portugal have lost the ability to achieve strong productivity gains, through either innovative advances or cheap labour, so as to generate large increases in GDP. On the other hand, they have messed up their fiscal profiles by living on borrowed funds. Looking ahead, none of these economies will inspire faith among investors as they look to park their funds in stable markets yielding good returns.
In contrast, however, some other economies might turn out to be bigger favourites with investors. These will certainly include the bigger emerging markets: China, India, Brazil, Russia, Mexico and South Africa. Among these, Brazil, Russia and Mexico have had histories of debt problems. South Africa does not; but at the same time it also probably does not enjoy the kind of growth momentum and favourable perception that China and India do right now. This is, however, not to suggest that only these six markets will figure in the domain of investors. Korea, Taiwan, Singapore, Chile and several others also will.
The bottom line is that once investors decide not to do anything with the Euro zone at least for a while, there is every possibility of other markets benefitting. Simply put, Europe?s loss will be others? gains.
It is not really a matter of coincidence that funds flow into emerging markets?particularly the Asian markets?have been rising steadily in recent months. India has been a major recipient of such inflows. Indeed, with more markets showing poor prospects, economies such as India might be the beneficiaries of switching of portfolios by short-term investors. The ample faith demonstrated by Foreign Institutional Investors (FIIs) in Indian debt paper in recent months is a positive indicator of the favourable outlook enjoyed by the Indian market. In the coming months, more funds flow is possible into the Indian markets, particularly if, as some analysts fear, the life line extended to the Euro zone may be too little and too late for the region to recover.
All these, however, does not mean that India can look forward to romping home with all the money flying out of Europe and connected markets. High interest rates in India are clearly working in its favour. But while they may fetch the funds in the short run, in the long run, they continue to make India a costly economy as far as access to institutional funds are concerned. These rates will not come down till government borrowings remain high. Government borrowings, in turn, will remain high as long as the economy manages its finances in an imprudent manner. In other words, borrows more than it can repay.
The clear message is that in a ruthless world where loyalties change by the minute, India may benefit from the exodus of funds in the Euro area. Returns from India, fortunately, till now, have been high enough to keep the Indian market firmly on the investors? radar screens. This, however, does not mean that India can expect to benefit from the European calamity in perpetuity. Remaining a permanent favourite of investors will require better housekeeping. This is essential to ensure that the history on one side of Gibraltar does not get repeated on the other side as well!
?The author is visiting senior research fellow at the Institute of South Asian Studies (ISAS) in the National University of Singapore (NUS). The views expressed are personal