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“ India is a great economy now, we are posed to lead the world into the next century and regain our golden bird status. We will walk alone and show the world that …... We are the best”

Choudhary Nathu Ram

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INDIA AND THE DECOUPLING HYPOTHESIS

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INTRODUCTION

GREATER INTEGRATION WITH THE WORLD

FINANCIAL INTEGRATION IS VISIBLE

TRADE AND SERVICES HAVE AMALGAMATED

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INTRODUCTION

INTEGRATION WITH BUSINESS CYCLE SYNCHRONISATION ?

HIGH ECONOMIC GROWTH - DECOUPLED

ARE WE FOOTLOSE AND ON OUR OWN ?

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INTRODUCTION

INCREASING TRADE INTENSITY-BUSINESS CYCLE SYNCHRONISATION

EVERYONE SEEMS TO BE TALKING ABOUT DECOUPLING

NO THEORY OR CONSENSUS ON DEVELOPING NATIONS

DECOUPLING – THE GREAT DEBATE

DIVERGENT PERFORMANCE OF ECONOMIES IN 2008 ECONOMIC CRISIS

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INTRODUCTION

EARLIER STUDIES – INCREASED SYNCHRONISATION

SOME FIND INCREASED CORRELATION

RECENT STUDIES REVEAL A MIXED TREND

OTHERS FAVOUR DECOUPLING

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INTRODUCTION

ANECDOTAL EVIDENCE FOR INDIA

WE WILL LOOK AT BOTH SIDES OF THE COIN : WHICH SIDE IS THE TOAST BUTTERED

SYSTEMATIC EVIDENCE IS LIMITED

GRAPHICAL ,STATISTICAL ,ECONOMETRIC DATA TO PROVE/DISPROVE THE HYPOTHESIS

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CONTENTS

THE DECOUPLING HYPOTHESIS

WHAT IS A BUSINESS CYCLE

REASONS TO SAY YES

BUSINESS CYCLE SYNCHRONISATION

WHAT DOES IT IMPLY

REASONS TO SAY NO

TESTING THE HYPOTHESIS

CONCLUSION

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THE HYPOTHESIS

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DECOUPLING HYPOTHESIS

The decoupling hypothesis is the idea that business cycles in emerging market economies have become more independent from business cycles in advanced economies in recent years. Decoupling essentially amounts to a structural break in the degree of business cycle interdependence between the two groups of economies

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HYPOTHESIS

ECONOMIES OF WORLD ARE INDEPENDENT OF EACH OTHER

INDIA’s GROWTH RATE OF 9-10% REFLECTS THRIVING DOMESTIC ECONOMY

TROUBLES IN WEST MIGHT PROVE TO BE ADVANTAGEOUS FOR INDIA

OUTSOURCING OF SERVICES

ONLY 22% OF INDIA’s ECONOMY IS EXPORT RELATED

EMERGING MIDDLE CLASS

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HYPOTHESIS

THE BUBBLE WAS FORMING

SKYROCKETING PRICES OF REAL ESTATE

STOCK MARKETS ROSE RAPIDLY

INCREASED PARTICIPATION OF MIDDLE CLASS IN STOCK MARKETS

MUTUAL FUND INDUSTRY BOOMED FROM $5 BILLION TO $40 BILLION

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HYPOTHESIS

STOCK MARKET BUBBLES TEND TO BE SELF CONTAINED

DECOUPLING THEORY MIGHT HAVE HELD UP IN CASE OF JUST STOCK MARKET BUBBLE

CREDIT BUBBLES LEAD TO A ‘DOMINO EFFECT’

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HYPOTHESIS

INDIAN STOCK MARKET ON A STEADY DECLINE

FOREIGN BANKS STARTED PRESERVING THEIR OWN CAPITAL

FLIGHT OF FOREIGN CAPITAL

GETTING LOANS FROM OUTSIDE HAVE BECOME DIFFICULT

INDIAN ECONOMY HAS SLOWED DOWN

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“When liquidity dries up, it doesn’t matter where you are”

Jamshid Pandole

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REASONS TO SUPPORT OR REJECT THE HYPOTHESIS

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REASONS FOR SAYING “YES”

EMERGING ECONOMIES COULD BE ‘DE-LINKING’ FROM THE DOMINANT ECONOMIES

PICKING UP OF ECONOMIC GROWTH IN INDIA

INCREASED IMMUNITY FROM IMPACT OF AN ECONOMIC DOWN - TURN

STRONG COMPLIMENTARITY BETWEEN EXPORTERS OF MANUFACTURING GOODS AND PRIMARY GOODS

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REASONS FOR SAYING “YES”

INDIAN RURAL ECONOMY STRONG ENOUGH

SMALLER EXPORT SECTOR RELATIVELY LESS RELIANT

STRENGTH OF RURAL ECONOMY- PRIMARY CAUSE OF DECOUPLING

INDIA TOWARDS MIGRATION

Cont…

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ROBUST INDIAN FINANCIAL SYSTEM

SAVINGS RATE

WILLINGNESS TO TAKE FISCAL CONSOLIDATION

LOW HOUSEHOLD DEBT

LOW FUNDING COST FOR HUGE INVESTMENT

AVAILABILITY OF EQUITY AND DEBT FUNDING

STRONG CONSUMPTION OVER THE NEXT DECADE

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REASONS FOR SAYING “NO”

IN 1990’s PRIVATE CONSUMPTION 67% OF GDP,SHARE OF EXPORTS 9% AS COMPARED TO 59% & 24.5% OF GDP IN 2008-09

INCREASED BUSINESS CYCLE SYNCHRONISATION OF INDIAN ECONOMY WITH THE DEVELOPED WORLD

EVERY 1% DECLINE IN WORLD GDP GROWTH LEADS TO AROUND 3.71% DECLINE IN INDIAN EXPORTS

EVERY 1% DECLINE IN WORLD GDP RESULTED IN 4% DECLINE IN INDIAN SOFTWARE EXPORTS

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REASONS FOR SAYING “NO” cont…

SHARE OF MANUFACTURED EXPORTS ROSE FROM 27.1%(1990-91) TO 52.2%(2000-01) & FURTHER TO 72.3% (2008-09)

IN 2008-09, EXPORTS PLUS IMPORTS OF GOODS & SERVICES FORMED AT LEAST HALF OF THE GDP

THE SERVICES EXPORT TO GDP RATIO ROSE FROM 3.2%(1990-91) TO 15.1% (2008-09)

SHARE OF FDI IN INVESTMENT INCREASED FROM 7% IN 2007 TO 8% IN 2008

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BUSINESS CYCLE AND ITS SYNCHRONISATION

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BUSINESS CYCLE

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BUSINESS CYCLE THEORIES

KEYNESIAN THEORY

REAL BUSINESS CYCLE THEORY

POLITICAL BUSINESS CYCLE THEORY

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BUSINESS CYCLE

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BUSINESS CYCLE SYNCHRONISATION

DEMAND CHANNEL- DEMAND SHOCKS IN ONE ECONOMY LEAD TO INCOME SHOCKS IN ITSTRADING PARTNERS

MONETARY POLICY IS A CHANNEL FOR COMOVEMENT BETWEEN COUNTRIES

BUSINESS CYCLE CONVERGENCE

FINANCIAL MARKETS LINKAGES AND CONTAGION

INCREASED FINANCIAL INTEGRATION SYNCHRONIZES CAPITAL FLOW

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GRAPHICAL AND STATISTICAL TESTING

OF HYPOTHESIS

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EXPLAINATION OF TERMS

TREND-trend of the GDP

output gap of each country- output gaps represent business cycles for a country. The output gap = (nominal GDP-trend GDP)/trend GDP

Euclidean distance : Euclidean distance equals to the absolute value of the difference between the output gap of the emerging-market economy (either individually or as a group) and the output gap of a group of advanced-market economies

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GRAPHICAL METHOD

Hence Euclidean distance takes into account the difference in amplitude and thus offers an innovative way of measuring synchronization. When Euclidean distance equals to zero, the business cycles are perfectly synchronized. Any other value (positive due to absolute sign) means imperfect synchronization and therefore the larger the distance, the larger the business cycle interdependence.

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1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

0

0.5

1

1.5

2

2.5

3

3.5

India-EU

Euclidean distance

trend

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

0

0.5

1

1.5

2

2.5 India-USA

Euclidean distance

trend

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

0

0.5

1

1.5

2

2.5

3

3.5

India-World's advanced Economies

Euclidean distance

trend

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

0

0.5

1

1.5

2

2.5

3

3.5

India-G7

Euclidean dis-tance

trend

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ECONOMETRIC EVIDENCE

SERIES OF REGRESSION USING THREE VARIABLES

INTERCEPT (ALPHA), TWO COEFFICIENTS (BETA) & (GAMMA)

EMERGING MARKET OUTPUT GAP, ADVANCED MARKET OUTPUT GAP & DUMMY VARIABLE

NEGATIVE GAMMA CONFIRMS DECOUPLING HYPOTHESIS

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2000 2001 2002 2003 2004 2005 2006 2007

USA β 0,35 (0,07)0,32

(0,009)0,25

(0,018)0,27

(0,017)0,32

(0,09) 0,36 (0,06)0,41

(0,04)0,29

(0,017)

structural break γ-0,91

(0,005)2,98

(0,02) 1,30 (0,08)0,85

(0,021)1,99

(0,003)

-1,26

(0,043)

-0,77

(0,023)0,28

(0,005)

E.U. β 0,35 (0,07)0,30

(0,012)0,27

(0,014)0,34

(0,06)0,36

(0,05) 0,35 (0,06)0,35

(0,06)0,32

(0,09)

structural break γ-0,02

(0,009)0,69

(0,003) 1,50 (0,07)1,70

(0,09)4,71

(0,02)0,61

(0,055)0,72

(0,005)1,47

(0,003)

World’s advanced Economies β 0,38 (0,05)

0,34 (0,08) 0,30 (0,01)

0,36 (0,05)

0,39 (0,041)

0,38 (0,046)

0,38 (0,047)

0,35 (0,06)

structural break γ 0,06 (0,09)0,67

(0,037) 1,39 (0,07)3,38

(0,01)1,28

(0,021) 1,59 (0,05)2,47

(0,005)1,23

(0,003)

G-7 β 0,35 (0,07)0,31

(0,01)0,27

(0,014)0,33

(0,07)0,37

(0,05) 0,36 (0,06)0,36

(0,06)0,32

(0,09)

structural break γ0,16

(0,009)0,76

(0,034) 1,41 (0,07)4,24

(0,11)

-0,420

(0,19) 0,31 (0,02)0,31

(0,005)1,36

(0,03)

ECONOMETRIC METHOD OF TESTING

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TESTING RESULTS

BOTH GRAPHICAL AND ECONOMETRIC TESTING POINT TO A GREAT EXTENT OF COUPLING WITH THE WORLD ECONOMY

SOME PARAMETERS SHOWED A SLIGHT DECOUPLING FROM THE US ECONOMY

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THE VERDICT

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GROUPS MANDATE

PROVE OR DISPROVE THE HYPOTHESIS

CHECK THE DIVERGENCE OF OUR GROWTH PATH

STUDY THE BUSINESS CYCLE SYNCHRONISATION

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CONCLUSION

DECOUPLING HYPOTHESIS –A MYTH

DECOUPLED -WORLD BANKING SYSTEM TO A GREAT EXTENT

PRUDENCE OF OUR POLICY MAKERS AND CENTRAL BANKER

THIS SELECTIVE RISK AVERSION SAVED US

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TRIPARTITE BLOW

HIGH INTERST RATES

MANAGEMENT OF FOREX

INFLATION

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GROWTH SNUBBED

IIP FIGURES AT

5.6% ARE AT THEIR LOWEST IN 9 MONTHS

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RECOMMENDATIONS

TREAD CAREFULLY ON INTEREST RATE HIKES

REMOVE SUPPLY SIDE BOTTLENECKS

MONETARY POLICY ALONE WILL NOT CONTROL INFLATION

IMPROVE INFRASTRUCTURE BY 200%

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RECOMMENDATIONS

REDUCE DEPENDENCE ON IMPORTED OIL

STEM OUT CORRUPTION-BLACK MONEY DILLEMA

IMPROVE FARM PRODUCTIVITY-WEAN SUBSIDIES GRADUALLY

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“ India is a great economy now, we are posed to lead the world into the next century and regain our golden bird status. We will walk alone and show the world that …... We are the best”

Choudhary Nathu Ram

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STOCK MARKET RETURNS OF INDIA Vs EMERGING ECONOMIES

Emerging Markets are shown by the green line, the USA by the blue line, and non-US developed stock markets by the orange line

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BUSINESS CYCLE

PERIODS OF EXPANSION AND CONTRACTION

TROUGH RELATES TO ECONOMIC DECLINE

PEAK REFERS TO ECONOMIC EXPANSION

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The growth of the Indian economy has become more tightly correlated to world growth in the last decade. While the correlation was 0.43 in the1980s and 0.59 in the 1990s, the slow and steady opening up of the economy led to an increase in this correlation to 0.92 during the period 2001-08

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THE TEST FOR DECOUPLING – THE GLOBAL CRISIS 2008

EVIDENT FINANCIAL & COMMERCIAL INTERDEPENDANCY BETWEEN INDIA & US

TIGHTENING OF LIQUIDITY IN DOMESTIC MARKETS & CONSTRAINTS IN ACCESS TO EXTERNAL FINANCING

INDIRECT EFFECT OF SUB PRIME CRISIS IN FORM OF LARGE CAPITAL OUTFLOWS

DROP IN US DEMAND LED TO AN END TO EXPORT DRIVEN GROWTH & DISRUPTION OF INTRA ASIAN TRADE