Burning Issues: India Set For Growth

by | Oct 6, 2014

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Our Burning Issues Feature Looks at the Prospects for a Resurgent India, Following a Decisive Election Victory

It’s no great exaggeration to say that Narendra Modi’s victory in last May’s general electionmodi was the stuff of post-war history. Not since 1984 has any Indian party swept the polls with such a decisive outcome as Modi’s Hindu nationalist Bharatiya Janata party, which won an incredible 282 of the 543 directly elected seats in India’s lower house – giving it a commanding 340 seats by the time you’ve included its allies.

Now compare that with the demolition of the outgoing centre-left Congress Party, which had governed India for all but 18 of the past 67 years but which this time won only 44 seats. India’s voters were signalling clearly that they’d had enough of the slow growth, the policy paralysis and the still-endemic corruption that has halved their country’s economic development over the last three years or so. Something had got to change.


Prime Minister Modi is known as a dynamic pro-business type who favours bringing in foreign economic involvement, and who plans to dismantle many of the investment obstacles that still block the way forward. That’s good. Less good is the fact that Modi has never held any national office, and that his Hindu party has a difficult history when it comes to its past relationships with the country’s 14% Muslim population. That’s something that he will need to address with sensitivity.

But for now, the mood is upbeat. Recent figures showed that India’s economy grew by an annualised 5.7% in the first quarter – beating forecasts by 0.2% and topping the final-quarter 2013 figures by 1.1%.

Our Panel

We asked our panel of India fund manager experts for their views on where it’s all going, and we think their insights are fascinating. Our thanks, therefore, to:

  • Rajendra Nair and Rukhshad Shroff, co-managers of the JP Morgan Indian Investment Trust
  • Ajay Argal, Head of Indian Equities at Baring Asset Management
  • Adrian Lim, Senior Investment Manager for Equities, Asia, at Aberdeen Investment Management





Question 1: Does Modi have the determination to loosen the restrictive rules on foreign investment?



Ajay Argal, Baring Asset Management

Loosening the rules on foreign investment would be a welcome development, and there is no doubt that India’s economy would benefit from the foreign investment that would follow. At the same time, we need to recognise that, after years of a socialist government in India, this is a contentious topic, and it may be that Mr. Modi chooses to focus on other areas first.

We believe that creating the right environment to kick-start the investment cycle in the country is more important rather than loosening rules on foreign investments.

Rajendra Nair and Rukhshad Shroff, JP Morgan

Mr Jaitley in his inaugural budget strongly emphasized that the Modi government would be open to foreign direct investors (FDI) in almost all areas, wherever FDI could help India to generate new jobs and opportunities.


Some FDI initiatives included in the budget were either known in advance, such as raising the FDI limits for defence firms, or were measures that the BJP had inherited, such as raising the limit for insurance companies 49%, where a bill on insurance was already in progress in the Lok Sabha. Other welcome initiatives were opening areas like construction, and social housing to FDI.

Of course, the likely problem areas for FDI will be getting State legislature approvals, particularly for areas like retailing or the food wholesale chain, where India’s traditional reliance on inefficient or informal distribution chains has led to strong lobbying against change.  In these areas, Mr Modi will have to use his political skills to ensure good cooperation between the central and state governments, which in many areas have a power of veto.




Question 2: What would you say is the single biggest challenge facing the Indian financial markets?

Adrian Lim, Aberdeen Investment Management

Modi is faced with a huge task. Asia’s third-largest economy is growing at a pace that is around half that of the years leading up to the global financial crisis; chronic inflation only recently dipped below 8% as rickety infrastructure limits the supply of even basic foodstuffs; meanwhile, the government routinely spends more than it receives in taxes and other revenue. A decade ago, people spoke of India as a serious economic rival to China. But attempts to introduce changes to boost growth were tripped up by coalition politics dominated by caste, religion and other sectarian interests in which power was passed around a self-serving political elite.

The ghost of the ‘licence Raj’ still haunts this nation as a bloated bureaucracy and restrictive rules help feed corruption while stifling innovation. For example, it can take up to 12 years to open a new coal mine. A 1947 labour law requires any company with more than 100 employees to secure government approval before shedding workers. Modi knows all this. His reputation as a pro-business reformer was forged during the dozen years he spent as chief minister of Gujarat.


Ajay Argal, Baring Asset Management

The biggest issues facing India’s economy include the need to develop the country’s infrastructure and tax regulation. These are related, and we think we will see progress in these two critical areas soon.

Mr. Modi is likely to take a pragmatic, long-term view with his plans for reform. He continually employed the slogan “Give me 60 months!” throughout the recent election campaign, and, now in power, he may even be thinking longer term than this.

We are very encouraged by the election result and believe that it supports India’s economic growth story. After a period of exuberance surrounding the election, we may see consolidation in the Indian equity market over the short term as investors adjust to the post-election landscape. The immediate reaction of the market was to rise on the news of the result, followed by a degree of profit taking.


Regardless of such short-term movements, it is our view that the economy and financial markets will benefit from an economic upturn over the next 18 to 24 months.

Rajendra Nair and Rukhshad Shroff, JP Morgan

The biggest challenge to India is whether the severe supply-side bottlenecks that derailed India’s fast-growth path in 2011, resulting in three years of stagflation, can be eased in a sufficiently timely fashion by the new policies of Mr Modi.  This will be vital if the expected increase in domestic demand due to the “animal spirits” being unleashed by Modinomics can be accommodated without the early return of strong cost pressures and high inflation.

Historically, India’s elections and change of government have only had a limited impact on the stock market. But if the NDA-coalition and Mr Modi focus on the key policy objectives in the BJP manifesto, this should be enough to trigger a cyclical improvement in the economy beginning early 2015 that in turn leads to better trend performance. This will feed through to company profits, margins and earnings, holding out the prospect of significant upgrades to 2015 Sensex earnings over a multi-year period. A brighter medium-term outlook for the Indian economy that should start to become visible by 2016.


In the near term, we are forecasting a cyclical rebound in India’s GDP growth rising to 7% by FY17 (a figure close to potential output growth) and CPI inflation falling to 6%, accompanied by a moderate widening in the CAC deficit. It is unlikely that all the positives have been priced into the market. Investors in Asian equities should employ any summer dip in Sensex to add to their India exposure; a significant structural O/W is strongly recommended.




Question 3: How do the plans for infrastructure development look to you?


Ajay Argal, Baring Asset Management

They look very encouraging, but the key thing will be the execution of these plans. The market is keenly watching and waiting for evidence that Modi has started to take the bold steps that India needs.

There are certain things that Mr. Modi can do in the shorter term to kick start the investment cycle because India’s GDP growth has come down quite significantly – primarily because of the lack of infrastructure investments. Mr. Modi is known for better and faster decision making – this is what he has shown in the past – so we’re expecting stronger decision-making which will catalyse a new investment cycle.

The other thing which is a likely to happen over the next year or so is the reform of indirect taxes; specifically, those on goods and services taxation. This reform has been on the agenda for quite some time, even with the previous government, but they didn’t have the political mandate. This government has that.

Rajendra Nair and Rukhshad Shroff, JP Morgan

The new government has hit the ground running, with the first budget containing quite detailed proposals in some areas, including infrastructure, whereas the expectation had been more for a general indication of direction.  There are some areas of infrastructure where the challenges facing India are quite daunting and easy solutions or quick fixes are not an option. The logjam in the power sector, for example, is one problem which will take a good while to resolve, as will the substantial recapitalisation of State-owned banks.  The new land acquisition law will also be key in reviving capex and  infrastructure spending.

There are actually few differences in economic philosophy or ideology between the previous UPA administration and the new  BJP-led government.  “Modinomics” as much as anything is about a government with more energy, better focus and greater efficiency than its predecessor.

Mr Modi is keen to speed up some of the many stalled road, power, and other infrastructure investment projects proposed by the outgoing Congress administration. This would also benefit the many private sector companies caught up in the bidding for these projects, reducing their cash flow problems. Priority infrastructure areas include (i) developing industrial and freight corridors, (ii) improving urban infrastructure, (iii) provision of low-cost housing (iv) agricultural infrastructure, including electricity supply, irrigation and water management and (v) transport, such as new Diamond Quadrilateral high-speed rail system.

Adrian Lim, Aberdeen Investment Management

Land acquisition and environmental concerns represent two of the biggest obstacles to infrastructure development and a complete overhaul is likely to take time given the complexity of the issues and the multiple stakeholders involved. While infrastructure projects were approved by the previous administration, few proceeded as planned amid protests by environmental groups. It will be hard for Modi to ‘win’ regarding infrastructure policies, and he must resist the temptation to pander to the more populist elements of his own supporters.




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