Economy & Finance

Rajaram Ajgaonkar
CA.

THE U.S. IS SLOWING DOWN

The buzz is getting louder and louder. The sub-prime mortgage losses are mounting to billions of dollars and they have shaken financial industry in the U.S. Number of big banks and reputed names in the financial markets have fallen prey to the problem and have incurred huge losses due to sticky mortgage debts. The situation has also badly affected other major financial markets of the world. It is expected that the debacle will further extend to year 2008. There may be more losses and more gloom, which can push the world into liquidity crunch and recession. High demand and weak US Dollar have pushed up petroleum prices. The consumer confidence has gone to the lowest level in the last couple of years. The U.S. consumer spending is lagging behind the expectations. The employment data is weak. It seems that U.S. slowdown is eminent. Things are not looking great in Europe as well. The spill over effect of sub-prime crisis is already biting U.K. and other parts of Europe. Property prices have started coming down creating more risk of mortgage loan defaults. The phenomenon can lead to the liquidity crunch and slowdown the economies further.

As per old economic order, a slowdown of this magnitude would have taken the U.S. centric world in recession. However, fortunately this time India and China are still firing. These growth engines are not showing any signs of slowdown as yet. China will need to cool off a bit in a systematic way to avoid hard landing; but Indian can stretch further. The growth of the two countries will make Asia grow at a reasonable speed. The countries like Korea and Taiwan, who are more dependent on U.S. growth, will face the pinch.

In the last few months, the U.S. property market has receded substantially and there are no rays of immediate hope. The markets in Europe and even London, which is the hottest property market in the world, have started softening. India, China and Asia have not relented; but it may be a question of time before the stocks and property prices there, start reacting to get to reasonable levels. As is in the case of stocks, in the case of a property, it is not easy to decide what is its reasonable price. Property prices are mainly governed by demand and supply in a location. Cost of construction has very limited effect on the value of prime properties. Globally, the property prices went up for the last few years as liquidity started chasing the properties as a safe investment avenue. The trend has started reversing in the west. Asia has not shown the reversal as yet; but it may grow at a lesser pace.

The world is currently entering an uncertain economic phase and the investors need to be cautious than ever before. The world is already riding high on the current business cycle and it is likely to be near an intermediation top. There is a possibility of downward trend from the current levels.

The global liquidity has made the asset prices rise to extra-ordinary high levels. The liquidity backed demand has pushed up the prices. High demand is breeding higher and higher costs. They are not pinching today; but they may start pinching soon.

Reducing prices is easy but reducing costs is not. A phase may come in near future that the higher costs and slowing prices can damage the leading economies thereby slowing down the whole world. All the economists in the world will closely watch the phenomenon. The risks are increasing now. The world will have to work smart to avoid the impending danger of a recession.

The west has been playing a dominant role in world economic activities. Looking at the current situation in western economies I feel that in spite of best efforts from respective central banks and monetary authority, the world may enter into recession in 2008 and there may be economic stagflation. Though the sub-prime mortgage problems have been talked about over the last six months, the problems are taking more and more serious shape. It is said that the actual extent of the losses are yet to be known. This situation is very likely to create liquidity crunch in the west and Asian pace of growth is likely to be subdued. As of now the best of the times of economic boom may be over for the world.

India will continue to grow in 2008 but may be at a lower speed. If the slowdown continues in west during 2008, the buoyancy in Indian markets may start fading. The investment climate in India is still looking rosy. The stock market is at its peak. Property markets are still booming. Lot of liquidity is pouring in and everything is looking great. The inflow of money from developed economies is creating exuberance and nobody is looking back. I feel that investors need to be more cautious from now onwards. For the time being I do not suggest increasing in exposure on stock markets unless the investors have a long-term horizon. Property markets seem to be risky in light of the fall in property prices in U.S., Spain, Ireland and now U.K.

Rates of interest are reasonably strong in India and they are expected to remain so for some more time. Investment in fixed deposits and Fixed Maturity Plans for a tenure of more than 12 months is recommended. Gold can be good investment around Rs. 10,000/- levels and profit may be booked at Rs. 11,000/-.

Recently some of the savvy Indian companies have lost money on exotic currency options. The foreign currency markets are likely to be volatile for the months to come. The investors and exporters should be careful while taking aggressive foreign currency exposures as they may be caught on the wrong foot.