India’s not the China alternative Wall Street thinks
India’s economy is growing faster than China’s but investors would be wise to take a second look before reallocating funds and factories to Delhi
Financial bookmarks can be very illuminating in assessing a market’s readiness for global primetime. Such is the case with JPMorgan Chase & Co adding Indian debt to its emerging market indices.
The Wall Street icon plans to do just that in June 2024, perhaps drawing US$40 billion into South Asia’s biggest economy – and at a moment when investors are buzzing that India is a ready alternative to a slowing China.
Perhaps most interesting, though, is that India will enter JPMorgan’s benchmark just days after Prime Minister Narendra Modi reaches his 10-year mark in power. On May 26, 2014, Modi’s Bharatiya Janata Party returned to power with a bold economic reform agenda.
The question, nearly a decade on, is whether the Modi era has whipped India into shape as a more innovative, productive and prosperous investment destination. And it’s here where investors rushing India’s way may be more disappointed than fulfilled.
In the Modi era, India is really a tale of two economies. The macroeconomy is going gangbusters with its China-beating growth rate and stampede of tech “unicorn” startups juicing the stock market. At the micro level, though, India is more cautionary tale than emerging-market exemplar.
At the BRICS summit in New Delhi earlier this month, Modi declared that “soon, India will become a US$5 trillion economy.” That would make India’s economy bigger than Japan’s.
And clearly, India is winning friends in high places. As JPMorgan Chase CEO Jamie Dimon views it, the surge in optimism on India is warranted.
Speaking at a forum in London this week, Dimon said: “Look at this conference. I remember eight years ago or nine years ago we started with 50 or 75 clients. Now it’s 700 investors around the world, 100 companies presenting. I think the optimism of India is actually completely justified.”
Morgan Stanley strategist Min Dai notes that its inclusion in indices like JPMorgan’s “could be a push factor to prompt foreign inflows into India and foreign investors are likely to be more active in the Indian fixed-income market.” This is, he says, a “milestone event.”
Economist Robert Carnell at ING Bank says “It remains to be seen whether the JPMorgan decision will spur others, such as the FTSE Russell to follow suit. Either way, as well as supporting the Indian rupee, the decision should also help to reduce government bond spreads over US Treasuries, and also pass through into lower corporate bond rates.”
Not surprisingly, Modi is working overtime to capitalize on this India-rising optimism by seeking to lure multinational companies disillusioned with China. The recent move by Beijing to order employees at some state-linked firms to cease using Apple’s iPhones has been a gift to Modi’s commerce ministry.
India, meanwhile, grew a China-topping 6.1% in the three months ended March year on year. Asia’s third-biggest economy grew an even more impressive 7.2% for the fiscal year through March as its post-pandemic recovery drove consumption.
As China becomes more isolated amid “de-risking” and “decoupling” calls, and Washington and its allies in Asia seek a new emerging-market growth champion, Modi’s $3.4 trillion economy is keen to step up.
This year, the International Monetary Fund sees India contributing more than 15% of global growth. While still less than half of China’s 35%, India’s global clout is clearly growing.
As Modi was happy to highlight at the BRICS — Brazil, Russia, India, China, South Africa — summit, India finds itself in something of a geopolitical sweet spot just as Global South nations come into their own. This gives Modi a unique degree of leverage to play China’s interests against America’s.
This, just as India surpasses China to become the most populous nation, a reminder that Modi’s demographics are healthier than Xi’s. China’s Communist Party is grappling with record youth unemployment, reported as high as 21% until authorities banned future readouts on the figure.
But India’s outlook also depends on Team Modi making the most of India’s so-called “demographic dividend.” If New Delhi doesn’t create enough good-paying jobs, it will face a demographic nightmare rather than daydream.
It’s here where India’s micro policies lag the heady exuberance at the macro level. Look no further than the lack of confidence among currency traders selling the rupee. India’s inflation troubles and the government’s shaky fiscal position have rupee trends defying economists’ optimism.
“Foreign investors have poured $16 billion into equities this year, viewing India as a haven amid rising US rates and economic stresses in China,” notes analyst Udith Sikand at Gavekal Research.
“They have been well rewarded, with stock markets hitting record highs. But the prospect of a weaker rupee, in addition to the outlook for elevated global interest rates, makes the risk-reward proposition on Indian equities less favorable in coming months,” Sikand says.
True, Sikand adds, the inclusion of Indian government debt in JPMorgan’s benchmark index “should prove a watershed event, turbocharged by investors’ need to find alternatives to China.” He adds that India’s “bond market is both deep enough to absorb much larger flows and remains largely untapped.”
Yet “the flip side of greater foreign participation in domestic bond markets is that policymakers will have less room to maneuver, particularly as the twin deficits widen,” Sikand says.
“Still, as long as the Modi government does not give in to its populist instincts in the run-up to elections next year, bond yields are likely to fall as investors look to front-run the expected flood of passive inflows.”
It’s a big “if,” though. Another worry: India’s infrastructure and competitiveness in manufacturing lag China’s by magnitudes that are impossible to dismiss.
Modi’s ambitious “Make in India” push has only increased the flow of Chinese imports, leading to a marked deterioration in New Delhi’s trade balance. Along with rubbing currency traders the wrong way, this dynamic complicates hopes that multinationals might shift supply chains India’s way.
Other warning signs include rising inequality, partly thanks to Covid-19 fallout and inflation running at 15-year highs. Kunal Kundu at Societe Generale speaks for many economists in cautioning that “consumer fatigue” could soon cause giant headwinds.
Modi’s decade in power hasn’t sufficiently addressed many of the challenges he pledged to tackle in 2014. They include poor infrastructure, inequality, chronic youth unemployment, high levels of private debt, a deterioration in balance of payments dynamics and underwhelming household demand.
This has opposition parties ready to pounce. At least two dozen minority parties are joining forces to sideline Modinomics in favor of a more inclusive model. Along with inflation, opposition forces are drawing attention to worsening religious violence and assaults on press freedom.
Here, it’s worth considering another worrisome bookend: the number 85. This is India’s current ranking in Transparency International’s corruption perceptions index.
It’s the exact same ranking India achieved in 2014 — and fully 20 rungs behind 65th-ranked China. So, while Modi’s tenure hasn’t unleashed a bull market in graft, it hasn’t been a golden era for good governance either.
That helps explain why nearly a decade after Modi took national power S&P Global still rates India just one notch above junk at BBB.
Modi’s appeal, of course, derived from the folk-hero reputation he cultivated during his 13-year stint running the western state of Gujarat. From 2001 to 2014, Modi’s local government routinely generated faster gross domestic product (GDP) rates than the national average.
Gujarat often also boasted greater productivity and innovation, less bureaucracy, better infrastructure and lower levels of corruption. A major reason why voters returned the BJP to power in 2014 was in the hope that Modi would replicate the “Gujarat model” nationwide.
Modi’s team did put some early wins on the scoreboard. It opened some key sectors to increased overseas investment, including aviation and defense. It implemented a national goods-and-services tax. It projected a sense of confidence as a startup boom put India in headlines for all the right reasons.
Yet Modi has often read more from the playbook of Shinzo Abe than Margaret Thatcher or Ronald Reagan.
In 2012, Japanese Prime Minister Abe took power pledging epochal reforms, channeling the supply-side revolutions that Thatcher unleashed on the UK and Reagan on the US.
Abe did manage to improve corporate governance. That, over time, drove the Nikkei Stock Average to 30-year highs. Mostly, though, Abe relied on hyper-aggressive Bank of Japan easing to revive growth. This trickle-down economics scheme failed to boost wages or rekindle innovation.
The parallels between Abenomics and Modinomics are clear enough. In certain ways, though, the Modi era in India has been far more damaging than Abe’s 1980s-influenced economic exploits.
Take India’s press freedom score, which has plunged precipitously. In 2014, its 140th ranking out of 180 nations on Reporters Without Borders’ tables was poor enough. Today India ranks 161st, trailing Cambodia by 14 rungs and 11 behind Pakistan.
If Team Modi were serious about reducing opacity and leveling playing fields, it would embrace a free-wheeling press as an ally in raising India’s competitive game. The Modi era has dragged India in the other direction.
Making this dynamic all the more awkward: this year’s scandal involving the Adani Group, led by billionaire Gautam Adani, whose alleged close ties to Modi date back to their Gujarat days.
Short seller Hindenburg Research accused the conglomerate of “brazen stock manipulation and accounting fraud,” spotlighting cracks in India’s financial sector.
In February, billionaire George Soros exacerbated the storm by saying that the Adani crisis “will significantly weaken” Modi’s “stranglehold” on New Delhi politics. In Soros’ telling, Modi and Adani are “close allies” with “intertwined” fates.
BJP officials pushed back, arguing that Soros has “now declared his ill intentions to intervene in the democratic processes” in India.
Weak corporate governance is raising concerns about the health of India’s business environment. It also collides with Modi-era efforts to spotlight India’s giant industrial conglomerates, many of which might not be ready for global primetime.
Another bookmark worth noting: In the latest financial year, foreign direct investment inflows fell for the first time in a decade. The 16% drop to $71 billion would seem at odds with a booming economy winning new converts around the globe as the new China.
It speaks to the need for Modi’s team to accelerate efforts to increase domestic and international competition, build trust in New Delhi’s regulatory institutions, scrap policies that support national champions and curb protectionist impulses.
If his “Make in India” strategy is to gain traction, Modi must rethink tariffs on foreign components. Though intended to advantage domestic supply chains, the protectionist policy dents India’s argument that it’s open for business.
Modi’s government must also invest more in human capital. One in five of India’s 1.4 billion people is under 25. Increased funding must go toward improving financial literacy, education and training. Modi’s team must delve into the economic effects of societal norms.
In a March report, the Organization for Economic Cooperation and Development argued that “in South Asia hundreds of millions of people – not just in India – are affected by caste-discrimination. Caste systems divide people into unequal and hierarchical social groups. Those at the bottom of hierarchy are considered lesser human beings. In the business and work-sphere caste-discrimination affects workers.”
To be sure, Modi has racked up some notable victories, notes analyst Alexis Serfaty at the Eurasia Group consultancy. He says that “India’s policy ecosystem seems to have finally found the right mix to enable rapid manufacturing growth.” Powered by broader geopolitical trends” and Modi government policies, “electronics manufacturing has grown 275% over the past eight years.”
But “while the overarching policy environment at both the central and state levels is realigning toward enabling export-led manufacturing growth, industry executives are still concerned about long-term policy stability, given India’s checkered history,” Serfaty says.
“The Modi government has assured investors that it has the political capital, and the policy will stay the course. Still, realigning bureaucratic behavior and state-level political views to support long-term growth will pose a big challenge in the medium term,” he adds.
And for global investors about to pour $40 billion into Indian debt, a reminder that Modinomics hasn’t transformed the economy as much as hoped and as much as needed to be the new China.
Follow William Pesek on X, formerly known as Twitter, at @William Pesek