Corona impact on India, Boom or Bane?

While the disease may not have impacted the country directly as much, the domestic economy which is just about showing some nascent signs of recovery may not escape unscathed. The greenshoots could get nipped in the bud.

India's annual trade with China is ~USD 90bn (India imports goods worth USD 75bn and exports goods worth USD 15bn). On account of factory closures in China, supply chains would get disrupted and this could result in shortages, especially of electronic goods and medicines. A lot of Pharma companies rely on APIs (Active Pharmaceutical Ingredients sourced from parts of China which are worst affected by the outbreak) We may see a temporary contraction in imports till the time some semblance of normalcy is restored in China. Trade deficit prints may be lower for the next couple of months. We may see the price of consumer durables inch higher. This would drive core inflation higher which is already showing signs of bottoming out. This in turn could make it more difficult for the MPC to provide further monetary policy stimulus. January core inflation print came in at 4.2% compared to December print of 3.8%. Fall in global crude prices on account of anticipated slowdown in demand would also result in a lower import bill. The sectors that are likely to be impacted on the export front are Diamonds, leather and petrochemicals. The imports are likely to contract more than exports and therefore from a current account perspective the outbreak could actually be Rupee supportive.

However from a capital account perspective, a big global risk off could potentially result in outflows from Emerging markets and trigger a flight to safety. Outflows from domestic debt and equity may put pressure on the Rupee. Offshore fund raising by Indian corporates is also likely to slowdown as raising money onshore has become cheaper after the LTRO announcement by the RBI (Corporate bond spreads have got compressed). Therefore we may also see a slowdown in ECB related Inflows over the medium term. The Rupee tends to be more sensitive to hot money outflows in the shorter term rather than current account dynamics. Though the Rupee may outperform, it may not be immune to the contagion if other Asian currencies weaken. Currencies of Countries which have stronger trade linkages with China such as Taiwan, Korea, Thailand are likely to come under more severe pressure than the Rupee or the Indonesian Rupiah.

China has unleashed a slew of stimulus measures, monetary as well as non monetary to help the economy tide over the outbreak. Other Asian central banks too have responded by cutting rates. Developed market central banks are already running accommodative monetary policies. In the absence of a real pick up in economic activity we may continue to see the liquidity chase select assets and this may soften the blow to financial assets to some extent. However in case of an extreme risk off, the liquidity would be comfortable residing in safe havens such as US treasuries and Gold and it would not be surprising to see the risky assets get badgered despite abundant liquidity if the Virus does not relent.

Since the outbreak is likely to result in a supply side shock, we may see the economic activity rebound very quickly as soon as the Virus strain becomes less active. This is expected to happen as temperatures begin to rise as Summer sets in. We may see a V-shaped recovery similar to the one we saw post the SARS outbreak in 2003. The Chinese Industrial production and Retail Sales had rebounded sharply after SARS. The slowdown will manifest itself in data for the current quarter but economic activity should pick up from next quarter onwards.

Though a run away move is unlikely in the Rupee at this stage we expect it to remain under pressure till the outbreak subsides. It would be premature to press the panic button at this stage. We expect the broad 70.70-72.50 range to hold. We expect the RBI to smoothen volatility intraday. Panic move is likely only on a break and close above 72.50.

Our view on the Nifty remains bearish as long as 12250 is not broken on the up side. We could see a move lower towards 11550 in the current swing.

With the RBI likely to stay on hold, abundant liquidity in the banking system and crude trading at comfortable levels, bond yields are likely to remain steady. Corporate bond spreads could come off further.