For India, the pain may worsen

While India is more insulated from the global financial crisis than most other economies, a long drawn out realignment of the global financial markets and a sustained global growth slowdown can affect us more adversely than most have factored in now. By Vivek Sharma

With the Paulson bailout plan having been approved in the US, governments in other major economies are also considering similar plans of their own and central banks across the world continue to pump billions of dollars into the market to ease liquidity pressures. There is talk of interest rate cuts and other measures by central banks, while market regulators are easing rules that restrict capital flows.

In India, the RBI has already cut the CRR by 50 basis points (See: RBI cuts CRR by 50 bps to 8.5 per cent to boost liquidity) and SEBI has removed restrictions on FII investments through the P- Note route (See: SEBI opens PN taps for foreign funds as market sheds 700 pts)

Yet, the stock markets continue to fall and credit markets remain frozen. The Dow slipped below 10,000 and the Sensex has taken out 12,000 on the way down. Credit spreads, the difference between market interest rates and benchmark rates, continue to widen. LIBOR rates are near record levels, but it doesn't matter anymore as banks are still too wary to lend to each other. Many more banks, especially in Europe, are said to be on the verge of failure.

It is not about the credit crisis anymore. The real fears are about a global recession, a painful realignment that can last a while.

In India, we have so far considered ourselves to be somewhat insulated from this global crisis because of our low export dependency and lesser financial integration with the rest of the world. Not anymore. The cataclysmic events of the last few weeks in the global financial markets can have a bigger impact on India than most of us have factored in.

The capital freeze
Until recently, when the rest of the world was slowing down, the one factor that was expected to support growth in India and China was a sustained increase in capital investments. Even if global demand weakens, it was thought that domestic consumption supported by huge capital outlays on infrastructure and capacity additions will balance it to a great extent.