Key political risks in India

An Expert's View about Trade Policy and Regulations in India

Last updated: 18 Feb 2011

Here is a summary of political risks to watch in India

 

INFLATION AND MONETARY POLICY

Inflation has emerged as a major challenge for policymakers, threatening to choke off growth in India’s domestic demand-driven economy by eroding the purchasing power of consumers. At 8.62% in September, headline inflation is still above the Reserve Bank’s comfort zone of 5-6 percent, feeding expectations of another rate hike of 25 basis points at its next policy review on Nov 2. The bank has raised rates five times this year by a total of 125 basis points. But monetary tightening has sparked government concern that an excessive rise in the cost of credit could impact company expansion plans and slow the economy. The current near-zero interest levels in developed economies have led to a torrent of inflows into India since September, and has complicated monetary policymaking. Another rate increase may trigger a fresh wave of capital inflows. Finance Minister Pranab Mukherjee has said 4-5% inflation is ideal for India but admitted achieving that may not be possible, even though headline inflation has eased after staying in double digits for six months through July.

 

What to watch:

* Comments by policymakers, advisers and central bankers on the outlook for inflation. Hawkish comments raise the likeli-hood of bigger rate increases and would weigh on bond prices

 

* Nov 2 central bank policy review meeting

ECONOMIC REFORM OUTLOOK

 

The Congress party-led government won a strengthened mandate in elections last year, but inflationary pressures and political opposition in India’s raucous democracy have meant progress on reforms has been much slower than some investors had hoped. The government has made headway in some areas: it has pledged to reform tax laws, sell stakes in some 60 state-run firms and formed an experts panel to ease foreign investment in the financial sector. But progress has been uneven. While June’s decision to free up fuel prices was also a signal the government may be getting more serious about reform, it has baulked from doing the same with diesel, a political hot potato, citing rising global crude prices. A proposed food security bill is also expected to impact public finances. There has been some talk from government ministers and policy makers on opening up the country’s multi-brand retail sector. But a decision may be a long time in coming because it is a sensitive political issue that concerns the livelihoods of millions of people dependent on mostly unorganised retail. India’s retail sector is worth $450 billion and largely closed to foreign firms.

While reforms may take longer to enact, the government is committed to making them happen, and investors, for now, are putting up with the slow pace to reap the dividends from a vast consumer market. Some reform bills are expected to be placed before parliament when it meets from Nov. 9 for the winter session, including the thorny issue of land acquisition for industry. Many reform bills such as those to open up pension and insurance are with various parliamentary panels.

 

What to watch:

* Any moves to lift state controls on diesel pricing will be bullish for markets

 

* Announcements of further stake sales in state firms to raise $8.64 billion to help cut the fiscal deficit

* Progress of legislation on India’s proposed nationwide goods and services tax

 

SECURITY

Threat levels in India have risen in view of U.S. President Barack Obama’s visit this month, with Indian officials saying Kashmiri separatist militants might try to stage “spectacular” attacks to draw the attention of the world to a region that is at the heart of the dispute between India and Pakistan and caused two of their three wars. Another attack like the 2008 militant strike in Mumbai that killed 166 people and India blamed on Pakistan-based militants would raise the risk of an Indian retaliation. Anti-India protests in the Kashmir region have cost more than 100 lives and increased regional tensions. Obama’s visit could also be a trigger for Maoist rebels to stage attacks. The Maoists want to overthrow the state and have been described by Prime Minister Manmohan Singh as the biggest internal threat to India.

 

What to watch:

* The danger of militant attacks. Markets have proven highly resilient to terrorism—the impact was very limited even when gunmen rampaged through Mumbai in 2008. But an attack which sharply raised the prospects of conflict with Pakistan would have a strongly negative impact on asset prices, particularly in the current risk-averse climate in global markets.


Posted: 18 February 2011, last updated 18 February 2011

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