High-frequency indicators signalling a collapse ahead for many sectors: Nomura economist

NEW DELHI: As India takes the first steps to return to normalcy from two-and-a-half months’ lockdown, a leading economist said high-frequency indicators are foretelling a major collapse ahead for various sectors.

Prospects for the economy are not looking encouraging at all. The country will not just battle a sharp rise in virus cases but also a demand destruction of unprecedented levels, said Sonal Varma, MD and Chief Economist (India and Asia ex-Japan), Nomura.

The government over the weekend said most businesses will reopen on June 8. Estimate as of early April showed the economy was operating at 25 per cent capacity, which increased to 60 per cent by April 20 when the first round of easing was announced. In early May, the same increased to 70 per cent and the same will be substantially higher from June 8.

“Covid-19 will lead to much weaker final demand and cause a bigger shock to not just bank balance sheets but also households, companies and the government. The medium-term outlook for India is a lot more negative,” Varma said.

Collapsing economy
Speaking at the Nomura Investment Forum Asia 2020, she said the hit on consumptions and services have been substantial and unprecedented.

“The biggest hit in growth will be in the April-June period. Our expectation is GDP will be down 15-20 per cent year-on-year for that quarter. Second quarter growth is likely to be a complete write-off,” she said.

Varma, however, highlighted that some of the consumer discretionary sectors like auto may see an immediate surge in sales due to pentup demand but once this phase gets over, there will be a phase of ‘new normal’ demand. And that phase will be at much lower than the pre-Covid levels as consumers will vie for cash.

The auto sector, which reported zero sales in April, saw some recovery in May, but the numbers were still far from the pre-Covid levels. Thanks to the expected recovery, shares of automakers have since seen a jump. Nifty Auto index has gained over 9 per cent in last one month, led by a 27 per cent surge in M&M shares.

Nomura said India’s economy will contract 4.8 per cent year-on-year during FY21, but will bounce back to grow 7.9 per cent next financial year on a significantly lower base.

Concerned by the growth outlook, Moody’s on Monday downgraded India’s sovereign rating to the lowest investment grade. But Varma does not see a further downgrade to ‘junk’ status anytime soon, “as rating agencies set a very high bar to cross to that level.”

“Rating agencies will wait to see whether there is a material deterioration before they ‘junk’ India. So, at a minimum, we are looking at six months of waiting period before any action, which is enough time for us to take a call if India is moving towards that status,” the leading economist said.

She, however, said going by the commentary from Fitch, it is likely to downgrade India’s outlook to ‘negative’. S&P, however, may take a little longer to decide if it wants to take a similar step.

Corporates & jobs
The impact of the lockdown is going to be crippling for many businesses, especially small and medium enterprises which operate on low cash buffers, said Varma. This, in turn, will affect the already non-existent job market.

“Companies have gone through two months of zero sales even as they continued to pay fixed costs. So the hit on them is much more severe and they will likely be in cost reduction mode. This will mean job cuts and halt to capex plans, which will further lead to reduction of corporate demand,” she said.

As per CMIE, a private surveyor, India’s unemployment rate stood at 23.2 per cent, with urban areas seeing over a quarter of its working population out of jobs while rural areas witnessing 22.3 per cent of its population unemployed as of June 1.

Poorer states that supply much of the working migrant population, such as Bihar and Jharkhand have unemployment rates of 46 and 59 per cent, respectively.

NPAs to mount
Balance sheets of the financial sector, which was already weak due to the 2018 cycle of non-performing assets (NPAs), is again a major concern going ahead as analysts, including Varma, expect a spike in bad loans.

NBFCs, which count commercial real estate and MSMEs among their main borrowers, are already seeing defaults. Gross NPAs of NBFCs were at 6.1 per cent at end of March 2019. Varma expects this to rise to high double digits soon.

The Covid-19 shock will result in another cycle of NPAs for the banking sector as they also have exposure to NBFCs and MSMEs, she said.

“Even on the retail side, if household balance sheets are being hit, salaries are being cut and jobs are not getting created, there will be some spillover, especially in the unsecured lending business. Overall, the gross NPAs of the banking sector will rise to mid-teens from 9.5 per cent right now,” Varma projected, adding that the true status will only be known after the moratorium period ends.

Recent stimulus not enough
Underlining that the stimulus announced by the government recently is not going to be enough as they barely provided fuel to survive, Varma said there was a need for further stimulus.

The government, in a series of announcements last month, outlined various measures to attract investments and provided relief to the most affected segments of society and businesses. However, there was criticism that none of them were focused towards an immediate boost to the economy.

“These fiscal measures are not going to fuel growth. The final demand is going to be weak. There will be a need for the government to step in again with some sort of demand stimulus. Similarly, there needs to be a clear solution in the financial sector as well,” she said.

Nomura expects RBI to continue its accommodative stance and deliver another 50 basis points rate cut. The central bank has already reduced its short term lending rates to a record low of 4 per cent.

Varma said beyond a point cutting rates and easy liquidity would not help if that does not reach the borrowers who need them. “That is why weak corporate balance sheets, rating downgrades and credit risk aversion among the lenders need to be addressed,” she said.

“It is no longer about cutting rates and injecting liquidity. The problem is not credit risk and policy has to address that. The financial sector, which is going to go through a deteriorating asset quality cycle, will not take that risk. That is why the risk has to be taken by the Government of India,” she said.