• January 14, 2016
  • 16
All India Radio
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Click here and search for 9th January 2016, Spotlight/News analysis for audio.

What has triggered a sell-off in the Chinese stock markets and why is there a loss of investor confidence there?

  • There is a slowdown in the world demand.
  • In the Chinese factories there is a lot of unsold inventory (surplus production).
  • Also, the interest rates in the Chinese markets are lower compared to the international rates.
  • That is why international investors are not finding Chinese markets attractive.
  • As a result they are withdrawing their money from China – stock market crisis.
  • This created a pressure on the Chinese currency (depreciation).
  • Hence, China resorted to devaluation (officially decreasing the value of its currency).
  • It has to sell its foreign exchange to maintain its exchange rate.

It seems that China is caught up in the quagmire of “impossible trinity”. They are taking three things simultaneously:

  1. Opening of capital account
  2. Fixed exchange rate
  3. Independent sovereign monetary policy

It is not possible for any country to have all the above three at the same time.

What is the impact of devaluation?

By devaluating its currency, China will become competitive in the world market (surplus production can be sold cheap rates). It will dump its goods in the international market and outstrip other economies.

China is the second largest economy in the world. If its currency becomes weak, then the US dollar will strengthen. If that happens, US economy will not be competitive. Its exports will be affected. If US economy is affected, the whole world will be affected in one way or the other. There will be increase in speculation on other currencies also, including Rupee, which in turn increases volatility.

As far as India is concerned, imports will be badly hit. India is by and large a trade deficit country. If its currency is in volatility, then imports will become dearer. This will increase the CAD. Thus, the whole macro economic situation will be impacted. There might not be any big impact on Indian stock markets.

What measures can India take?

In this situation, devaluation of Rupee to increase India’s exports cannot be taken as a counter-measure. This is because; India is not a supply-surplus economy, unlike China. With respect to China, we import around $60 billion and export just around $12 billion.

India can take measures to protect its domestic industries from the competitive Yuan by imposing duties on imports from China. There are labour intensive sectors like textiles, steel, gems and jewellery etc which are vulnerable to cheap imports. Hence, such measures have to be taken.

India has to undertake reforms in its economy at this critical juncture in the world economy.

  1. To reduce the transaction cost of our manufacturing and increase competitiveness both domestically and internationally, GST should be implemented first.
  2. Secondly, changes should be made to Land Acquisition bill. Manufacturers are not able to deploy their capital in various plants because of lack of land.
  3. Thirdly, availability of capital to MSMEs is important. Our manufacturing is mainly driven by MSMEs. They are not getting enough finance easily from the banks.
  4. Fourth, labour reforms.

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