India has suffered an extended period of policy paralysis under the incumbent Congress Party. Economic growth has disappointed and inflation has remained stubbornly high. As the result of the world’s largest democratic election approaches most commentators are forecasting that the opposition Bharatiya Janata Party (“BJP”), under Narendra Modi, will form a new coalition government.
Political and economic progress
The Indian stock market has rallied strongly in the run up to the election result on 16th May. Last September’s appointment of Raghuram Rajan as the Governor of the Reserve Bank of India has also improved sentiment. Rajan’s policies are a clearly targeted attempt to turnaround India’s economic fortunes. He has acted swiftly to deal with India’s huge current account deficit. He has imposed import tariffs on gold to reduce the trade deficit and raised interest rates, leading to a stabilisation of the rupee. In addition, he has announced long term inflation targets, indicating a resolve to beat inflationary expectations in a manner similar to Volker in the US in the 1980s. Against this backdrop, economic data and earnings have surprised against very low expectations.
Mr Modi has strong leadership credentials having built his reformist, business friendly reputation as the Chief Minister of the State of Gujarat. The State is seen as a model for India, with a budget surplus and superior economic growth. Gujarat accounts for 5% of India’s population but over 7% of its GDP, and its urbanisation rate is over 42% compared with a national figure of 31%. It will be harder for Modi to manage India at the national level as he will have less control of the implementation of his plans than he had in Gujarat. He will need to work with the individual Chief Ministers to create a shared vision. He is a controversial figure (following criticism over his handling of race related violence in 2002) and he may not be able to deliver the jump in growth in the time frame currently anticipated by the market.
However we expect Modi to boost economic growth by re-starting several stalled investment projects. We also anticipate the announcement of a number of longer term policy reforms in an attempt to boost corporate and consumer confidence. There are plans to build a national freight rail network as well as gas transmission pipelines and liquid natural gas terminals. There is potential to improve efficiencies in the food chain, where more than 30% of product is spoilt before it reaches the urban market place. This exacerbates the impact of the annual monsoon on food prices, leaving India vulnerable to destabilising inflationary spikes.
Infrastructure investment is a priority
We remain bullish on key infrastructure sectors. India’s population continues to grow and the country urgently needs to prepare for a rapidly rising urban population by building amenities such as water treatment and potable water facilities, transportation, power generating capacity, transmission and distribution.
We hold a number of Indian companies that are set to benefit from these government commitments. We have a position in VA Tech Wabag, a specialist in water treatment for municipal and industrial users which is building desalination and sewerage facilities in India. Its order book has outpaced expectations and grown over 25% in the last year. We also have exposure to Larsen & Toubro which is continues to benefit from the growth in demand for urban and water infrastructure development. We recently took a position in Jain Irrigation, which is set to benefit from a recovery in agricultural micro irrigation demand and has an improving balance sheet as the business becomes less working capital intensive. India will require extensive investment in power generation, and both Thermax and Greenko are represented in our portfolios. Thermax makes energy efficient captive boilers and Greenko is the largest domestic wind independent power producer.
A long term growth opportunity
India has an exciting period of growth ahead. The combined impact of the new government and the actions of the Reserve Bank show a commitment to long term economic reform, although the path may not be smooth or swift. Infrastructure should be a key sector to benefit early on and substantial development will be required over many years. We are committed to India’s long term infrastructure investment opportunities and will also look to increase our exposure in any post-election volatility or weakness triggered by disappointment in the pace of interest rate cuts.