Does China Have India’s Built-in Resilience Over U.S. Downturn Concerns?

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India’s Finance Minister lays down his reasoning India will escape a U.S. recession, but does China have the same fundamentals?

By Chris Devonshire-Ellis in New Delhi and Andy Scott in Shanghai

Mar. 27 – At the start of 2007 India and China were poised to dominate the world economy. The countries were both experiencing huge growth rates, infrastructure projects were moving forward, and foreign investment was flowing in, boosting trade and development through a region of emerging markets. The outlook was bullish. “As long as those rates are sustainable,” said Indian Finance Minister P. Chidambaram, “India’s continued development is assumed.”

Just a year on, a whole new set of issues could impact the Indian economy, as well as other emerging markets, especially that of China. The U.S. sub-prime crisis has dried up liquidity, the U.S. dollar is approaching record lows, oil is trading around US$100 a barrel, respected international financial institutions are going bankrupt, and the prices of commodities in foods and metals have doubled and tripled.

It’s now not just a matter of Indian and Chinese bullishness, a large blot has appeared on the landscape.

Sitting down with Mr. Chidambaram yesterday, we had just one question to ask: Can India escape a potential U.S. recession?

“We have protection against a problem in the U.S. economy,” Chidambaram said. “About 35-36 percent of India’s GDP is in investment with both domestic and overseas resources continuing to funnel funds into India.”

Chinese Premier Wen Jiabao issued similar assurances at the closing press conference for the annual National People’s Congress. “I am paying great attention to the world economy, I am especially deeply worried about the U.S. economy,” Wen said. “I am deeply aware that this is a big challenge to China, but I can tell everyone that China’s economy is fundamentally sound.”

“The tight monetary and prudent fiscal policy that China is carrying out stems from China’s actual situation, mainly characterized by excessive growth in investment, overly fast growth in the money supply and credit and a trade surplus rising too fast.”

Chidambaram also noted the India’s domestic tax administration is becoming more efficient, allowing for a 12.7 percent contributing tax ration in 2007. That figure is expected to rise to 13 percent by the end of 2008, adding another US$25 billion to government coffers.

China’s tax regime also recently went through a major overhaul, with new corporate and individual income tax laws taking effect in the last two years. Unifying the corporate tax rate in China has not seemed to scare off potential foreign direct investment in China. Even as the recession took hold in the United States in January and February of 2008, China drew $18.13 billion in foreign direct investment (FDI), up 75.19 percent year on year.

While China’s growth is widely expected to slow down this year, a mild cooling as a result of the U.S. recession would actually be welcome. However, as a lot of the country’s growth is export-driven, a protracted, deep recession could have significant implications for the country. China has been moving to boost domestic consumption to offset its reliance on exports.

In India, Chidambaram noted that growth remained strong, touching 9 percent, but that mindful of a possible downturn, the government had made some adjustments. “The text books say that when you increase public expenditure, and cut income tax and customs duties, your economy will grow, so in our recent budget we have done just this,” he said. The finance minister was certain that these measures would help spur the domestic economy in India as a counterbalance to any negativity.

The Indian economy is racked with debt, especially in the agricultural and steel industries. In the last week alone, 140,000 tons of cultivated of rice were destroyed by unseasonably heavy rains in Kerala in Southeast India. “How is that the fault of the farmer?” Chidambaram asked. “We have to support them, and get them back into production. We have just announced debt forgiveness for over 13 million farming families.” The moves will help the economy he said, a strong demand for agriculture in India means that the government must step in to help the farmers provide it.

While China faced large economic losses as a result of the massive winter storms that ground most of the country to a halt ahead of the Chinese New Year, those setbacks were mainly temporary and the economy, spurred by consumer spending and government subsidies has bounced back. Many banks however, are expecting less than stellar years as sub prime holdings drag down the growth estimates.

Bank of China said it held US$5 billion in asset-backed securities at the end of 2007, 2.13 percent of its investment securities, and booked US$1.58 billion in provisions and markdowns on the holdings. Industrial & Commercial Bank of China said its sub prime-backed securities were worth US$1.23 billion at the end of 2007 and had booked US$400 million as an allowance for potential losses on the portfolio.

India on the other hand, has been relatively unscathed by the sub prime fall out. “We do not have any first order effects in India as a result of the U.S. sub prime problem,” Chidambaram said. “I have one small bank in India with a minimal and manageable amount of liability to this exposure; that is it.”

The sub prime fall out and U.S. recession should help to lower China’s GDP growth rate towards the government’s target of 8 percent, though experts expect actual GDP growth to be closer to 10 percent for the year. “The targeted eight percent is more a guide for macro regulation than a concrete goal,” Li Deshui, a member of the 11th National Committee of the Chinese People’s Political Consultative Conference told Xinhua at the recent National Party Congress. “It doesn’t mean the growth rate will really plunge that much.”

In India, monetary management could dampen investments the finance minister said. “The Reserve Bank of India’s interest rates are currently quite high,” Chidambaram said. A downturn during 2008-2009 could impact India and reduce growth to 8 percent. The damage, Chidambaram said, could be minimized. “At the end of the day, if China looks like showing growth of 9 percent during that period, and we are at 8 percent, then we are the second biggest economy in the world, and for us…that is not a bad place to be.”

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Our related website deals with matter concerning emerging markets throughout Asia. Please see the following related articles concerning various meetings with government ministers in India concerning Indian infrastructure development and foreign direct investment opportunities:

Interview with Kamal Nath, India’s Minister of Commerce
The full interview with P. Chidambaram, India’s Minister of Finance
Interview with M. Ramachandran, Secretary of State for Urban Development Planning
Interview with Ashok Chawla, State Secretary for Aviation

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