Strong fundamentals to help India counter global turmoil: WB

Washington, Oct 23 (PTI) India is more exposed to the
global financial markets than other South Asian countries, but
its strong fundamentals and pro-active monetary policy
management will help it tide over the crisis, a World Bank
study has said.

The study 'Global financial crisis : Are storms gathering
over South Asia?' said there will be a significant slowdown in
South Asia's growth prospects for 2009-10, and particularly
notable for Pakistan and India, which is "relatively more
exposed... through capital flows... and exposure of domestic
financial institutions to troubled international ones..."

In the last five years, price increases of global
commodities, especially those of oil, metal and food, budget
deficits widened and trade balances worsened. With this, the
growth softened and inflation reached double digits.

"Yet these risks are countered by a fundamentally strong
macro economy including prudent foreign debt management, high
savings rate, solid financial sector health, and a pro-active
monetary policy management that will likely allow India to
ride the crisis without destabilising the financial sector,"
it added.

The study mentions the swift action of the Reserve Bank
in injecting extra liquidity into the financial sector, and
raising the limit on private foreign borrowing, adding that
the global financial crisis is still evolving and there is a
significant risk of further slowing down of net capital flows.

"The global financial crisis will likely worsen...
particularly on the growth and balance of payments front.
Slowdown in global economy will adversely affect South Asian
exports and could hurt income from remittances. Lower foreign
capital flows and harder terms will reduce domestic
investment. Both will lower growth prospects," it said.

"The possible downside effects of the financial sector
crisis are much more direct and substantial from the real
economy implications. These will work through trade,
remittances and investments... South Asian economies have
become much better integrated with the global economy than in
the early 1990s, the study has said.

Exports are now over 20 percent of G.D.P. and are a major
source of growth stimulus, it said.

"The recession in O.E.C.D. countries will almost
certainly lower the export prospects for all South Asian
countries, but especially India that has done remarkably well
in the services sector and now faces a sharp slowdown in
demand," it added.

South Asia is also a major exporter of textiles and
garments that are vulnerable to the recession in the O.E.C.D.
economies. Depending on the magnitude and the period of this
recession, the adverse effects on exports can be large, the
report said.

"One redeeming feature emerging from the import side is
the observed downward trend in commodity prices, especially
food and fuel. The import bills on these accounts, especially
fuel, are already coming. The recession in O.E.C.D. countries
will likely cause a further reduction in commodity prices with
positive effects for South Asia," the report added.

The study said foreign remittances have grown rapidly in
South Asia over the past few years providing an offsetting
cushion on the balance of payments and they have been a huge
source of income and safety net for a large number of poor
households, especially in Afghanistan, Bangladesh and Nepal.

"Much of these remittances come from low-skilled workers
engaged in the oil-rich countries of the Middle East. These
earnings do not face an immediate risk as these economies
have huge earnings and reserves from the oil price boom
and oil prices are still substantially higher than in 2002 in
real terms.

However, remittances from O.E.C.D. countries can be
adversely affected. India and Pakistan are particularly
exposed to this slowdown. On balance the downside risk of
substantial lower earnings from remittances appear low," the
study said.

"Growing fiscal deficits due to food and fuel subsidies
and rising inflation suggest that South Asian countries have
basically run out of fiscal space and do not have the option
of riding out further shocks with expansionary fiscal and
monetary policies.

"So, in the near term growth will need to fall to absorb
the shock from the financial crisis. Indeed, as noted, all
South Asian countries have responded with some degree of
monetary tightening and cutbacks in development spending, and
have also adjusted domestic fuel and fertiliser prices in
varying degrees to stem the widening of the fiscal deficit,"
it said.

The policy option of full pass through of fuel and
fertiliser prices to consumers is not a politically viable
option, although further reduction of the gap between domestic
and international prices and better targeting of open-ended
subsidies are possible, especially in Pakistan which faces the
largest macroeconomic imbalances, the study said.