Following the Narendra Modi-led BJP’s resounding win on May 16, the Associated Chambers of Commerce and Associations of India (Assocham) was quick to project that “gung-ho” foreign investors would pour $60bn into India this year, more than double the $29bn of foreign investment inflows for 2013-2014.
The effect of this spike in appetite for India has already shown through in credit markets, with spreads having moved to the tighter end of recent history.
Seeing this momentum, Indian borrowers swiftly moved to take advantage of the liquidity feast, with Syndicate Bank and ICICI Bank both unleashing new issues last week. While Syndicate Bank received plenty of attention by attracting a 7.5x subscribed order book, what really got the street gushing was ICICI’s $250m tap of its 4.8% 2019s. It had priced inside where the existing bond was trading – a feat that had never been accomplished by an Asian issuer.
With ICICI, the rationale was that investors were willing to take a hit now to secure the possibility of benefiting from a continued upside that seems nothing but assured amid the post-election euphoria that has swept over India.
No doubt Modi’s victory does give cause for investors to celebrate. An economic reformer, India’s 15th prime minister has pledged to create a “shining India” by jumpstarting the country’s failing economy, creating jobs and reviving stalled infrastructure projects.
However, as a good number of governments around the world have shown, election promises are often easier made than delivered. Just ask Japanese prime minister Shinzo Abe, who is struggling to push through some of his promised structural reforms for reviving Japan’s economy, according to an April IMF report.
And what Modi is trying to pull off is far from simple. The BJP leader had pledged to revitalise India’s anaemic GDP growth, which, at 4.7% in 2013-2014, was running at only half of what it was averaging in the last decade. At the same time, he promised to tame the country’s chronically high inflation, which was at 9% last year.
However, in the short run the two objectives cannot be accomplished together and Modi can only choose one to tackle first while allowing the other to deteriorate.
Central to Modi’s campaign is a pledge to boost infrastructure investment, which had dwindled under the previous government. In the long run, higher infrastructure investment would expand India’s real economy, which would elevate GDP and keep inflation in check.
But the catch is that controlling India’s 4.5% fiscal deficit is also at the top of Modi’s list. Among the proposed measures is revamping the tax system, including introducing a goods and services tax, to boost government revenue. However, that would end up choking private investment in infrastructure. In addition, India also has a high current account deficit.
Added to that, an astonishing wealth gap, slowing industrial production and a troubled banking system, alongside pressing socio-political issues such as internal security concerns and tensions with neighbours, are among the flurry of other challenges facing Modi.
Things are further complicated by the obstacles that Modi could face in pushing through legislative changes needed to bring about his promised reforms. Although the BJP coalition holds a majority in the lower house of the Indian parliament, it is outnumbered in the upper house, which could create a bottleneck for the passage of proposed legislation through parliament.
For the moment, though, the market seems oblivious to all that, driven by the conviction that Modi will deliver a new India. But if reality begins to fall short of expectations, the fiesta could quickly unwind, as the Nikkei’s 8% decline since the start of this year on Abenomics’ weakened momentum has shown.
While it’s easy to get caught in the euphoria of the moment, investors enjoying the party should not lose sight of the potential risks. Otherwise, they could find themselves with a bad hangover.