Be Careful - The Ominous signs again( Dec6 2006)

The economic performance of the US in the third quarter would definitely be worrying for developing economies and industries dependent on the world's No 1 economy. The third quarter GDP growth expectations were at an optimistic level of 2.1 per cent, but the performance was a disappointing 1.6 per cent. The US economic forecasts by the global banking community as well as the IMF are point to a "falling from a cliff" situation, especially if the inflation worries are not addressed seriously. The current forecasts for the next few quarters, stretching up to 2007 end, suggest a GDP growth not exceeding 1.5 per cent.
The key factors governing stability for the US in the next few quarters are crude oil prices and the Asian crisis. With inflation reaching its flashpoint, the US may have limited options to manage or mitigate the risks arising out of these two sensitive issues. Certainly, the US needs to tighten control of the fiscal management. But if OPEC members curtail production and supplies beyond this winter, the US fiscal prudence would get out of hand. The nuclear crisis in Iran and North Korea could push the world into a crisis.
India's Foreign Trade
What would be the economic impact on India in the third quarter onwards? The concerns are mainly on four sectors — textiles, IT/ITeS, automobile and jewellery — which have always depended largely on the US economy. The Indian textile and software industries are heavily dependent on the American consumer spending. These two sectors together could account for a huge workforce (on rolls, contractual and indirect) numbering upwards of 50 lakh.
Going by the Planning Commission's Annual Report 2005-06, India's software companies have a dependency factor of about 70 per cent on the US for their gross global revenues. Without getting seriously into the numbers, conservatively, India's IT-ITES sector exports are around Rs 70,000 crore. More importantly, a large workforce, of around 15 lakh, depends on this sector. A marginal cut in IT spending by the US could have unpleasant consequences for the Indian IT sector. The three key sectors — banking, retail, and insurance — drive the revenue of most Indian IT companies. These sectors depend on the people's savings. With reduced per capita income in the US during the last few quarters, worsened by the housing sector slump since April, these sectors may well slow down, and spell trouble for Indian IT majors.
This could have the unintended consequence of base-lining the over-skewed salaries of the workforce in the Indian IT sector with the manufacturing sector. Also, the uncontrollable levels of attrition for the last two-three years in the Indian manufacturing and retail sectors could subside.

Reduced Disposable Income

On the flip side, one can expect salary levels to reach trough levels as cost-cutting initiatives assume unprecedented levels. With key productivity initiatives all but exhausted, the only available tool may be downsizing of workforce. This would imply a reduced disposable income from the Indian working class across sectors, mainly IT/ITES, textiles, jewellery and automotive components. Within the next quarter, compounding ripple effect could become evident across other dependent sectors such as real-estate, banking, automobile and retailing.

Silver lining
But the World Bank has opined that large developing economies would be definitely decoupled from the ongoing economic slump. Already the major IT companies have hedged their risks by expanding aggressively in European and chinese markets. It remains to be seen whether the mighty euro /yen can anchor for a slumping dollar if it does happen.
Blesseth the mortals - amen!!