Focus on affordability quotient not inflation

The rate of Consumer Price Inflation (CPI) in India dropped to 3.34% in the month of March; below the lower bound (4%) of the regulator’s (RBI) target band of 4% to 6%. It is definitely a significant development insofar as the monetary policy consideration, macroeconomic stability, and consumer confidence are concerned.

If this trend sustains, it would pave the path for further easing in the monetary policy; improve the fiscal outlook; improve the outlook for debt and currency markets; aid corporate profitability and encourage fresh investment flows. In this sense, it is certainly good news for the investors in Indian financial markets in the near-term.

However, in my view, a low inflation rate does not help a large section of the Indian population much. A low inflation rate only implies a slower rise in the price level as compared to the prices in the base period. It offers no relief to the people who are already finding the existing prices of the essential goods and services unaffordable. A slower rise, not matched by a similar rise in wage level, just makes the living conditions even more challenging.

Apples at Rs300/kg and Mangoes @Rs180/kg are unaffordable for many middle-class households, even though their annual inflation rate may be close to zero.

Over the past two decades, nominal wage growth has often lagged or barely matched CPI inflation, especially for informal and unskilled workers. This has led to stagnant or declining real wages, exacerbating affordability challenges.

This trend, juxtaposed with poor new job creation, implies a further squeeze on the struggling middle class of India. The growth rate of private consumption, which constitutes approximately 60% of India’s GDP, will decelerate. Household savings which have cushioned the fiscal balance since independence, will erode even faster. A significant section of middle-class households may slither into a debt trap. Investment rate will deteriorate. The economy will get stuck in a vicious cycle of poor savings rate-low investment rate-lower economic growth-lower household income growth-poor savings rate.

Wage dynamics in India

As per the latest Annual Report (2023-24) of the periodic Labour Force Survey (PLFS):

·         Labour Force Participation Rate (Ratio of workers employed and willing to work to the total population) in India is ~46%. The worker population ratio (WPR) is slightly lower at ~43%.

·         Of the total Worker population (WP), 58% workers are self-employed (39% work on their own account and 19% family members helping these own account workers). Only 22% of WP is employed in a regular salaried job. ~20% of WP is casual workers.

·         Regular wage workers (22% of WP) earn on average Rs700/day wage. Self employed workers earn on an average Rs463/day wage. Casual workers earn on an average Rs433/day wage.

·         About 90% of WP is employed in the informal sector, with mostly undefined social security and poor job guarantee.

·         Job creation has been a persistent challenge. The PLFS data shows unemployment rates hovering around 6–8% from 2017–2023, with youth unemployment (15–29 years) exceeding 15%. Formal job growth has been sluggish, with only ~10% of the workforce in organized sectors. The IT and services sectors, traditional middle-class job engines, face slowdowns due to automation and global competition.

·         In the past decade or so, wages of the regular salaried employees have risen at 3.7% CAGR; while casual and self-employed have experienced 2-3% CAGR in their earnings. CPI index in the 2013-2025 period has risen at 5.5% CAGR. The affordability quotient of middle classes has obviously diminished.

It is pertinent to note that “Nominal wages grew faster (6–10%) in the 2000s due to MGNREGA and economic growth but slowed to 2–4% post-2015, lagging inflation.

Implications of diminishing affordability quotient

The combination of stagnant real wages and poor job creation has put a squeeze on middle-class disposable income, reducing their ability to consume and save. This is particularly acute for the lower middle class, who lack the financial cushion of wealthier households.

·         Private Final Consumption Expenditure (PFCE) accounts for ~60% of India’s GDP. PFCE registered a growth rate of 6–7% in the 2000s and early 2010s. In the past five years PFCE growth rate has slowed to 4–5% due to economic shocks like demonetization, GST implementation, and the COVID-19 pandemic. Recent trends are indicating a recovery in consumption, with PFCE growth projected at 5–6% for FY25, driven by rural demand and government transfers. However, urban middle-class consumption continues to remain subdued.

Stagnant real incomes and high absolute prices (e.g., food, fuel, education) have adversely affected the discretionary consumption (e.g., durable goods, travel) of households. For example, automobile sales, a proxy for middle-class spending, grew only 2–3% annually post-COVID, reflecting affordability challenges.

·         Household savings have been quintessential to India’s fiscal stability, financing investment, fiscal deficit and cushioning the current account deficit. Gross household savings averaged 20–25% of GDP in the 2000s but have since declined to 17–19%. Financial savings (e.g., bank deposits, mutual funds) have fallen from 10–12% of GDP in the early 2010s to ~7% in 2022–2023.

A sustained decline in household savings reduces the pool of domestic capital available for investment, increasing reliance on foreign inflows or government borrowing. This is straining India’s fiscal balance and public investment. Erosion of savings is also making middle-class households vulnerable to economic shocks.

·         Household debt in India has risen steadily, from ~10% of GDP in the early 2000s to 40% by 2023. Retail loans (e.g., housing, personal, credit card debt) grew at 15–20% annually post-2015, far outpacing income growth. Middle-class households are increasingly relying on debt for housing, education, and consumption (e.g., EMIs for durables).

If real incomes stagnate and job creation lags, households may struggle to service debt, especially with rising interest rates. A debt trap would further erode savings, reduce consumption, and increase financial instability, as households divert income to debt repayment. This could also strain the banking sector, reducing credit availability for investment.

·         Gross Fixed Capital Formation (GFCF), a measure of investment, averaged 30–32% of GDP in the 2000s and has fallen below 30% by 2024. In particular, corporate capex has remained slow, despite a variety of government incentives. Declining household savings has on one hand reduced the available domestic capital pool for investment; while on the other hand poor demand growth visibility is also discouraging new capacity building in many areas.

·         Declining household savings has adversely affected bank deposits, constraining credit for small and medium enterprises (SMEs), a key investment driver. RBI data shows SME credit growth slowing to 10–12% from a high of 18-20%.

Conclusion

While low CPI is welcome, it does not address affordability issues. It is critical to not lose focus on managing the price situation and improve the affordability quotient of households. The urgency of implementing structural reforms cannot be emphasized more at this point in time.

Massive efforts and pragmatism are needed in the areas of agricultural productivity enhancements, education & skilling of workers, improving women workforce participation rate, making education, housing and healthcare costs affordable for households. A strong wage indexation mechanism could also help improve the affordability quotient. 

Looking beyond Mr. Bond

Continuing from yesterday…Mr. Bond no longer a superstar

Given my view that the yield curve is no longer a strong leading indicator, I prefer to use a mix of indicators to assess the likely direction of the markets. Mortgage rates, credit growth, credit terms, repo outstandings and the size of the central bank’s balance sheet are the most prominent ingredients in the mix I like to use.

For example, in the context of the US, Mortgage rates are a close pulse on borrowing costs, consumer behavior, and economic health, less abstracted than the yield curve. In the U.S., the 30-year fixed mortgage rate tracks loosely with the 10-year Treasury yield—historically about 1.5 to 2 percentage points higher—but it’s more than just a derivative. It folds in lender risk appetite, housing market dynamics, and Fed policy fallout in a way that hits Main Street directly.

Presently, mortgage rates are climbing—30-year fixed is around 6.8%, up from 6.4% in late March, shadowing that recent 10-year yield jump to 4.5%. That’s despite recession odds rising, which, one may assume, would pull rates down as safety bets pile into bonds. Instead, it’s signaling stubborn inflation expectations (CPI still above 3%) and maybe some lender jitters about defaults if the economy wobbles. Post-2008, mortgage rates have also been a better tell on how QE and rate hikes filter through—when the Fed bought $2.5 trillion in mortgage-backed securities, rates stayed low even as Treasuries twitched. The curve didn’t catch that nuance.

Mortgage trends usually sidestep central bank distortion. The Fed can pivot Treasury yields, but mortgage rates reflect a messier mix—banks’ funding costs, housing supply, wage growth. In 2022, the curve inverted, but mortgage rates soared from 3% to 7% clearly indicating “tightening ahead”.

Mortgage rates provide a frontline view of credit conditions and consumer stress—80% of U.S. household debt is tied to mortgages—without the Fed’s thumb on the scale.

Credit growth, credit terms and repo outstandings pair well with mortgage rates to assess the genuineness of demand supply equilibrium of the credit market. Together, they cut through the noise of central bank meddling and give a clearer view of whether demand and supply are truly balancing or just riding artificial waves.

Credit growth is the engine’s RPM. It tells you how much new borrowing—household, corporate, or government—is fueling the system. In the U.S., total credit to the private sector grew at a sluggish 2.5% annualized rate in Q1 2025, down from 4% in 2023, as per Fed data. That’s tepid, especially with mortgage rates at 6.8% crimping home loans—mortgage debt growth is barely 1% year-over-year. Meanwhile, consumer credit (credit cards, auto loans) is up 5%, hinting that people are leaning on short-term debt as housing gets pricier. If credit growth stalls while mortgage rates rise, it’s a sign demand’s weakening—banks aren’t lending, or borrowers aren’t biting.

Credit terms are the fine print—how tight or loose lenders are with the purse strings. Are banks demanding higher credit scores, bigger down payments, or jacking up spreads on corporate loans? Right now, the Fed’s Senior Loan Officer Survey (Q4 2024) shows tightening standards on commercial loans—net 15% of banks raised hurdles—while mortgage terms eased slightly, with down payment requirements dipping to 10% on average from 12% in 2023. High-yield bond spreads are at 350 basis points over Treasuries, up from 300 in January, signaling risk aversion. If terms toughen as mortgage rates climb, it’s a red flag—supply’s there, but lenders don’t trust demand to hold up.

Repo outstandings are the plumbing’s pressure gauge. The repurchase market shows how much short-term cash banks and funds need, and how willing they are to leverage. As of April 2025, U.S. repo volumes are hovering at $2.8 trillion daily, per NY Fed data, up 10% from last year. In a “genuine” equilibrium, repo would hum along smoothly, not swell like this while credit growth lags.

Mortgage rates at 6.8% look less alarming if credit’s flowing, terms are loose, and repo’s calm—demand and supply are moving in tandem. But slow credit growth, tightening terms, and repo pressure say the market’s strained—supply’s there, but demand’s shaky, and liquidity is a crutch. Central banks can twist yields all they want; these metrics show what’s really moving.

Central bank’s (CB) balance sheet is another key watchable for me. If CB takes too much paper on its own balance sheet, it indicates an attempt to unfairly influence the bond market equilibrium.

CB’s balance sheet is a massive lever they can pull to sway markets, and when it swells too much, it’s a flashing sign they’re trying to muscle the bond market into line rather than letting it find its own footing. As of April 9, 2025, the Fed’s balance sheet sits at about $7 trillion, down from its $8.9 trillion peak in mid-2022 but still a hefty chunk—roughly 25% of U.S. GDP.

Fed loading up on paper—mostly Treasuries ($4.3 trillion) and mortgage-backed securities ($2.3 trillion) as of late 2024—is a deliberate play to augment liquidity or cap yields.

In a free market, bond yields would reflect investor sentiment—fear of inflation, growth bets, default risks. But when the Fed gobbles up $95 billion a month or steps in with “emergency QE” like some predict if Treasury markets seize up again, it definitely distorts the equilibrium.

I use the classical 2:1 debt equity parameter used to benchmark the corporate balance sheets, to assess the central bank’s balance sheet also. I think M2 (Money Supply or Central Bank’s liabilities) should not be more than 2x of the assets on its balance sheet.

For context, in the US M2 money supply is close to US$21 trillion, versus the Fed’s assets of US$7trillion. That is a 3:1 debt equity ratio for the Fed. This implies excess liquidity from years of bond-buying ($4.3 trillion Treasuries, $2.3 trillion MBS on the Fed’s books). Pre-GFC M2 to Fed balance sheet ratio reached 8:1. Banks were churning out loans—subprime mortgages, leveraged buyouts, etc. —while the Fed’s balance sheet stayed lean, mostly short-term Treasuries. Reserves were minimal ($10 billion or so), and the fractional reserve system let M2 balloon. When the housing bubble popped, that 8:1 leverage meant there was no cushion—credit froze, banks choked, and the GFC happened.

Mr. Bond no longer a superstar

The conventional market wisdom suggests that the bonds usually lead the change in market cycles. Traditionally traders have closely followed the yield curve shape, benchmark (10 year) yields and high yield credit spreads to speculate the near term moves in equity, currency and commodity markets. Two simple reasons for this traditional practice are –

(i)    Bond markets are usually more correlated with the economy.

(ii)   Size of bond markets is materially larger than the equity, currency and commodity markets. It has the largest number of leveraged positions at any given point in time; and most of the large and influential market participants are more active in bond markets as compared to the other markets.

I am however inclined to disregard this piece of conventional wisdom. In my view, it would make sense only if the markets are operating in a free and fair manner. In cases where the central bankers and governments (through Sovereign Wealth Funds and other institutions controlled by it) actively and frequently intervene in the market, effectiveness of bond markets in leading the markets is impaired.

The world has definitely changed after the global financial crisis (GFC 2008-09). Central bankers, government, and public institutions are now playing significantly more active roles in the financial and commodity (especially gold and energy) markets. Bond prices are often influenced to suit the objectives of fiscal policy. Stock prices are influenced to suit political expediency.

Even pre-GFC, equity and bond traders did look at proxies like USD/CHF or copper—known as "Dr. Copper" for its economic sensitivity—for directional cues. In the past one decade we have seen Japan’s central bank buying equities; India’s government nudging markets via state-owned entities like LIC; the US Fed’s quantitative easing indirectly supporting massive amounts of stock buybacks; and Sovereign wealth funds in the Gulf Cooperation Council (GCC) countries piling into equities. This clearly indicates that in markets "no fixed formula works forever." Markets are adaptive. What held true for the past 35 years might not hold for the next 35.

US Bond yields no longer a lead indicator

In my view, the yield curve is fully relevant only if the market is free and genuine demand supply equilibrium of bond prices is discovered by the market forces. In situations where central bankers direct, manipulate or regulate yields, the yield curve is materially less important.

There is plenty of recent evidence, pointing that the US bond yields are no longer a strong indicator of the economy and/or markets. For example, consider the case of the US yield curve inversion in 2022-23.

Typically, an inverted yield curve—where short-term Treasury yields exceed long-term ones—has been a reliable harbinger of recession, preceding every U.S. downturn since the 1950s with a lag of roughly 6 to 18 months. The inversion that began in July 2022, peaking in mid-2023 with the 10-year/2-year spread hitting around -100 basis points, was the longest on record, lasting over two years. By historical standards, a recession should’ve hit by mid-to-late 2024. However, it has not happened; and the GDP growth held steady at 2.8% annualized in Q4 2024, and unemployment remains low at 4.1% as of March 2025.

Moreover, after un-inverting in September 2024—when the 2-year yield (around 3.6%) briefly dipped below the 10-year (around 3.8%)—yields have climbed across the board in the last two weeks. This morning, the 10-year yield is hovering near 4.5%, up from 4.0% in late March, while the 2-year has risen from 4.1% to about 4.5%. Incidentally, this rise coincides with a spike in recession odds, with the New York Fed’s yield curve model pegging the probability of a recession by mid-2026 at around 40%, up sharply from 25% a month ago. Normally, you’d expect yields to fall as recession fears mount, reflecting a flight to safety and anticipation of Fed rate cuts.

Prima facie, it appears that the bond market is more concerned about the rising inflationary expectations, particularly in light of the latest tariff policy of the US government. CPI is currently running above 3%—and there is skepticism about the Fed’s willingness to cut rates meaningfully from their current 4.75%-5.0% range. Higher yields also reflect a demand for more compensation amid uncertainty which could stoke inflation further. Arguably, the economy’s resilience—strong consumer spending, a robust labor market—may have also impaired the yield curve’s predictive edge this time. Structural shifts, like massive Fed balance sheet expansion since 2008 or global demand for long-term Treasuries, have certainly distorted its signal.

The recent yield rise despite recession odds implies that bond traders are betting on tighter policy or inflation risks, despite economic data flashing slowdown warnings (e.g., manufacturing PMI below 50 for months).

Conclusion: The yield curve’s relevance erodes when it’s less about market discovery and more about central bank glide path. Though it’s still worth watching, it’s no longer the king it once was in a freer market.

Tomorrow I will share my thoughts of what could be a better indicator, or aa mix of indicators to assess the likely market direction.

Tariff Tantrums – Where do we stand?

The global markets are shaken by the trade war initiated by the US by announcing arbitrary unilateral tariffs on all of its trade partners. Some large trade partners of the US, like China and EU, have reportedly threatened to join the war with full vigor, making the global market extremely jittery.

The prices of most risky assets and commodities have corrected sharply due to fear of widespread economic repercussions resulting in a global recession or even a depression like condition. The benchmark indices in most developed countries have corrected 8% to 18% in the past one month. Commodities, especially metals and energy, have also seen 7%-15% cut.

In my view, it may be a little early to assess the short-term impact of the latest events. Things are evolving fast and chances are that better sense would prevail and leaderships of the US and its trade partners would be able to prevent the current stalemate from becoming a game of ego between them; and arrive at a mutually agreed solution. Millions of research reports and several hours of media commentaries, analyzing the short-term impact of the latest tariff war, have already happened. I am in no position to add anything more meaningful.

However, if the situation does deteriorate and more people begin to think like Prime Ministers of Singapore (watch here) and the UK (read here), the global ‘reset’, we have been talking about since the global financial crisis (GFC: 2008-10), may take a tangible shape much sooner than presently anticipated. It is critical to make an assessment where would India stand in the new global order, if it were to take shape in the decade or so.

The impact of the GFC on financial markets was mitigated in a couple of years by collective efforts of the governments and central bankers. However, the social, geo political and economic impacts of the crisis largely remain unmitigated.

The "Reset" button pressed by the crisis has resulted in widening of socio-economic divide across the world. The geo political tensions have intensified materially. The rise in protectionism has adversely impacted global trade. The rising unemployment in Europe and most commodity dependent economies in Asia, Africa and Latin America, declining growth in China, substantial cut in developmental aid to least developed nations due to fiscal pressures, has caused widespread human suffering for over a decade now.

The onslaught of novel coronavirus (COVID-19) and Russian invasion of Ukraine, has accelerated the "Reset" process. I have written this before, but it would be in order to reiterate a brief account of the changes in world order that have taken place since the advent of the 20th century.

In 1917, the Russian revolution successfully dismantled the Tsarist autocracy and laid the foundation of the USSR. In the following decades, many smaller independent European states became subservient to a mighty Russian socialist army, and together formed one pole in the emerging bi-polar world, forever shrouded by the specter of cold war.

In the same year, the USA decided to join the War as an associate of the Allies - a development that tilted the scale in favor of the Allies, bringing the War to an end in 1918. In the following decades, the USA emerged as a formidable military and economic power, and led the democratic allies to become the second pole in the emerging bi-polar world.

The imperialist global order that existed in the preceding centuries began to dismantle. Many colonies of the European empires gained freedom. The British Empire that was built in three centuries and covered almost one fourth of the world population and area before the War, was completely dismantled in the following three decades. In these three decades (1918-1950), a new world order acquired a concrete shape. For the first time in modern history, the world adopted a rule-based order, characterized by multilateral agreements and institutions like the UN, NATO, WARSAW Pact, GATT, NAM, Bretton Woods, World Bank, energy cartel (OPEC), et. al. Mao, Israel, and the Cold War were key interludes in the main play. This world order lasted for about four decades.

The German Wall fell and the USSR disintegrated in early 1990s. This unleashed a new wave of globalization in a world dominated by just one superpower – the USA. Global Trade (WTO), Internet, dematerialization of assets, Europe integration into a single market, China's entry into mainstream global trade (through WTO), free flow of capital, G-20, BRICS, numerous FTAs, global war on Islamic fundamentalism, energy security, climate control and global financial crisis, dominated this phase.

Cracks started to emerge in the global order after GFC. The global economic behemoth China started to express its global ambitions in terms of domination over trade, technology and territories. Russia, which had become a dominant player in the global energy market, also expressed its ambitions. Both these countries now led by unchallenged, ambitious, and strong leaders were openly challenging the US hegemony; and looking for a rightful place for themselves in the global order.

In the past five years, the outbreak of a global pandemic and Russian invasion of Ukraine has accelerated the process of a reset in the global order. As things stand today, we could have a concrete shape of the new order emerging in the next 5-10 years. I personally do not believe that the emerging world order will be based on isolationism, parochialism, localization of trade and closed borders. Though smaller trade blocs, more regional blocs like the European Union, neutral currencies, and redrawn global maps may be some of the key features of such an order.

A more relevant point is where does India stand in this critical transition? I would share my thoughts on this next week.

Tariff Tantrums

Last week, President Trump announced a hike/imposition of tariffs on most of the USA's imports. As per the proposed tariffs that are presently scheduled to come fully into effect from 9^th April 2025, the Trump administration has proposed a 10% base tariff on all imports into the US. Over and above the base tariff, higher rates of tariff are applicable on several countries based on the trade deficit of the US with each such country.

The global reaction to the tariff announcement has been varied. Some trade partners like China have responded aggressively by announcing matching higher tariffs; whereas the others, like India, have adopted a wait and watch approach, hoping to find a middle path.

Apparently, the calculation of the proposed indiscriminate tariffs has been done through mindless spreadsheet application, using the recent US trade data. Though President Trump had made tariffs a key issue in his poll campaign, the administration appears mostly unprepared for this. The explanation offered by the US administration for taking steps is not convincing. For example, the arguments presented in an interview of treasury secretary Scott Bessant, remind of an old folklore that goes like this:

“Once a little lamb walked to the river to quench his thirst. At that time the king of the jungle, a Lion, was also drinking water from the river a few meters upstream of the lamb. The smell of this small soft lamb whetted lion’s appetite. He wanted to eat the lamb immediately, but the farce of being a just and kind king, he has perseveringly created over years, prompted him to look for a valid excuse to kill this small creature.

After thinking for a moment, he roared "How dare you make me drink dirty water?”. Not sensing the trouble, the lamb politely replied, my Lord, I am downstream, while you are drinking water upstream. It is me who is drinking your dirty water!”

Determined to kill the lamb, the lion retorted, “but why did you laugh at me last summer when I passed by your abode?". Now sensing some trouble, the lamb meekly replied, "My lord, it could not be me, because I was only born just a couple of months ago”. Unable to control his urge, the lion lamented, “If it was not you, it must be your mother. You must pay for her sins.” Saying this he jumped on the lamb and killed him.”

A career hedge fund manager, who has been feasting on the miseries of others all through his adult life, suddenly speaking the language of Karl Marx, and rooting for the hungry and homeless, would make sense only if he wears the rob of a monk and speaks from a monastery. It sounds even more unconvincing when seen in tandem with the DOGE’s move to end humanitarian aid, in some cases a couple of million dollars, to the world’s most poor and disease prone people.

Listening to President Trump and his team members, I get a vivid impression that Tariff tantrums they are throwing are just an ill-thought excuse being used for a bigger design. This is clearly a fight to stay relevant in the emerging world order. The US economics and demographics do not support its pole position in global geopolitics – a position they have enjoyed and greatly benefitted from for over 80 years now.

The US gained its pole position by dropping “Fat Man” (Nagasaki) and “Little Boy” (Hiroshima), eighty years ago, and has been repeatedly shocking the global community through economic, financial and geopolitical shocks to retain this position. The latest tariff tantrums may just be part of that series.

I do not subscribe to the conspiracy theory doing rounds on social media that this may just be a ploy to push the US yields down, to ease the fiscal pressure and facilitate smooth refinancing of the debt maturing in the next couple of years, for three simple reasons:

(i)    The US mostly borrows in its own currency. A simple quantitative easing (USD printing) would be sufficient to refinance debt.

(ii)   Bond yields are mostly a function of demand and supply for the underlying bonds. Tariff war would certainly weaken the US economy - at least in the short term (2-3years), if not structurally. Besides, it will also trade linkages of the US. Weaker growth (weaker USD) and declining external linkages would invariably result in poor demand for bonds, hence higher yields. To the contrary, a strong economy with contained inflation (cheaper imports) and stronger external linkages is more likely to stimulate higher demand for the US bond and hence lower yields.

(iii)  Approximately, one third of the US public debt (US$8-9 trillion) is owned by the foreign entities. Out of this, Japan (US$1.1 trillion) China (US$800bn) and the UK (US$700bn) are major holders of the US debt (US Treasuries). A full-fledged trade war could result in these holders optimizing their UST holdings and might further reduce demand for the US debt.

There is also a serious disconnect between the immigration policies and the objective to make the US a manufacturing power again. The US wage structure, average US citizen skill levels, the cost of imported raw material and capital goods post tariffs, and a weaker USD may not be conducive for an efficient manufacturing ecosystem. The US would need cheap foreign labor, strong USD, strong trade linkages with suppliers of raw material and engineering goods for at least one decade to relocate manufacturing back to the US.

Notwithstanding the brouhaha over the US$5mn gold card, in the absence of an assurance of a free, liberal, diversified, inclusive and equitable society and stable policy environment, not many investors and highly talented workers may find the US a suitable investment/career/study destination. The European competitors may be happy to host these investors/workers.

In my view, Trump’s tariff tantrums are part of the traditional US ‘shock and awe’ tactics. They will test waters with this sometimes and stage a strategic retreat, if it does not show the desired effects, viz., reinforce the US position as undisputed superpower; achieve fiscal correction without triggering a deeper demand recession, and probability of putting Trump’s face on the Mount Rushmore. However, if it does show the desired results, no one should have any strong reasons for worrying.

In the worst case, if the US stays committed to tariffs and its trade partners prefer to contest rather than yield, we must be prepared for the end of the rule-based global order that has prevailed since the end of WWII. The age of Vikings returns. All powerful nations begin campaigns to acquire territories and resources. The weak nations get subjugated. Poor and starving people are made slaves. Indentured laborers would rebuild empires, before the disease and death destroys it all.

In this context, it is important to listen to the warning of the Prime Minister of Singapore. 

FY25 – All’s well that ends well

Financial Year 2024-25 (FY25), may be recorded in the annals of history as a watershed year for global politics, geopolitics, markets and the financial system. The events that occurred during the past twelve months have opened up significant possibilities for emergence of a new global order. Although the contours of the likely new global order are yet to begin taking a shape, it appears that fight for dominance over technology; endeavor to gain fiscal strength; interventionist democracy where the state exercises intensive control over citizens; and top priority to energy security would be four key characteristics of the new order.

The markets began to take cognizance of the broader developments and oscillated wildly between the extremes of greed and fear during the year. However, thankfully, markets managed to close the year on a rather satisfactory note. Most asset classes – equity, bonds, precious metals, base metals and real estate yielded decent returns for the year. Moreover, as we begin the new financial year (FY26), some of the key concerns, e.g., wider trade conflicts, geopolitical escalations, and fiscal implosions have peaked and showing some early signs of easing.

In India, the economic growth returned to the normal pre-Covid trajectory, as the base effect of FY20 and FY21 low growth tapered off, and external challenges mounted. Equity markets settled close to their long-term average valuations, after witnessing one round each of euphoria and despondency. Bond markets and INR have also managed to end the year on a rather optimistic note.

The following are some of the highlights of the performance during FY25.

Equity Markets

The Indian equity market managed to end the year in positive territory, despite showing negative in six out of twelve months. Indian equities underperformed the global peers. The benchmark Nifty yielded a return of ~5% (3% in USD terms), which was in line with the US markets (S&P500 +8%), and Europe (Stoxx600 +5%, DAX +21%) but much lower than China (Hang Seng +38%, Shanghai Composite +9%). Asian markets, ex China, were mostly negative, with Japan (Nikkei225 -10%), Indonesia (IDX-10%), Korea (KOSPI -10%) and Singapore (SET -15%) ending the year with decent cuts. The valuation premium of Indian markets to the other emerging markets therefore remained elevated.

Banks saved the day for Indian benchmark indices

The benchmark Nifty (+5.3%) performed in line with broader markets (NSE500 +5.4%, Smallcap 100 +5.4%); though midcap stock did somewhat better (Midcap100 +7.5%). The gains in benchmark indices were mostly led by banks (Nifty Bank +9.3%). Overall market cap of NSE was higher by 6.9%, explained by many new listings and outperformance of midcap stocks.

Sector-wise, Financials, Services, Private Banks, Pharma and Metals were top outperformers. Media, IT Services, PSU Banks, Realty, FMCG, Auto, Infra and Commodities were notable underperformers. Micro-sector-wise, Ship builders and EMS were outstanding. Renewable energy and real estate builders were notable losers.

2HFY25 witnessed 5/6 negative months

The benchmark Nifty50 yielded negative month-on-month (MoM) returns for five out of six months in FY25. The second half of the year was worst with five out of six months resulting in negative MoM return. However, the market breadth was negative in nine out of twelve months implying much higher volatility in the broader markets.

Institutional flows positive

Over institutional flows were materially positive for FY25. Net domestic and foreign flows in the secondary equity market amounted to Rs3591bn. Foreign Portfolio Investors (FPIs) were however net sellers of Rs2480bn in the secondary market, while domestic institutions pumped in a record Rs6071bn. FPIs were net sellers in eight out of the twelve months. The nifty-institutional flow correlation (73%) was decent in FY25.

Debt and Currency Markets

Indian debt and currency markets were volatile in tandem with the global trend. However, both bonds and INR managed to close the year on a buoyant note.

RBI cut the policy rates by 25bps and Cash Reserve Ratio for commercial banks by 50bps. The benchmark 10-year treasury bond yields eased to 6.58% from 7.11% a year earlier. USDINR weakened 2.6% to 85.59 from 83.35 a year earlier. Lending and term deposit rates were higher by up to 10-20bps. The yield curve shifted lower and flattened completely.

The RBI changed its policy stance to “neutral” from “withdrawal of accommodation” in FY24. The liquidity position however continued to remain tight, with banking system liquidity remaining in deficit for most part of the 2HFY25. The credit growth outstripped the deposit growth. Overnight and call money rates cooled 25bps in 4QFY25, due to aggressive open market operations carried out by the RBI.

Economic conditions

Overall FY25E GDP growth slowed down to ~6.2% as the effects of the low base of FY21 and FY22 tapered off and fiscal correction progressed further. The consensus estimates for FY26E GDP growth is slightly better at ~6.5%. Nominal GDP growth for FY25E has been materially lower at ~9.1%, and is expected to pick up to ~10.5% in FY26E.

·         CPI Inflation mostly remained within the RBI’s tolerance band of 4-6% (except for a short spike in October 2024). Core inflation eased below 4% in August and then February 2024.

·         Real rates have mostly remained in positive territory during FY24.

·         Fiscal deficit remained high despite moderation over the past few years.

·         The private sector investments failed to gather the desired pace, despite several government incentives. The government capex also slowed down in FY25. 9MFY25 investment to GDP ratio dropped to 32.6%. Private consumption recovered in FY25E from the sharp dip in FY24.

·         External conditions worsened during FY25. Merchandise trade balance deteriorated to USD292bn. Exports were lower yoy, while imports were higher by 6% yoy. External debt was higher by 10%. Net FDI flows continued to slow for the third consecutive year.

Commodities

FY25 was a mixed year for commodities. Precious metals (Gold +40%, Silver 39%) and Industrial metals (Zinc +17%, Copper +10%) recorded good gains, while energy (Brent Crude -17%, Coal -20%) and agri commodities (Wheat -16%, Soy -14%) ended the year with strong losses.

Crypto shine

Cryptocurrencies further strengthened their position with material rise in trading volumes and market capitalization. Bitcoin ended the year FY25 with a strong 21% yoy gain. More jurisdiction accepted cryptocurrencies as a valid medium of exchange, financial asset and/or tradeable asset.

Swings may get incrementally shorter

In the past seven trading sessions, the benchmark Nifty 50 has managed to fully recoup the YTD2025 losses, soothing the ruffled feathers to a large extent. The broader markets have also regained some of the lost ground, though the midcap (-10% YTD2025) and small cap (-15% YTD2025) indices are still in the negative territory.

For the financial year 2024-2025, Nifty (+6.5%) has yielded a decent return, which is marginally lower than China (+12%), the US (+10%) and Europe (+9%), but much better than the other Asian peers like Indonesia (-11%), Japan (-6%) and South Korea (-5%). Broader markets in India are also positive FY25 (Midcap +8% and Smallcap +5%).

Now the question is “how does the market look from here?”. I shall deal with this question in some detail next week. However, to close this financial year, I must say this.

In my view, the collective wisdom of the market in India has appeared to have assimilated all the known events and anticipated developments regarding the economy and earnings, that could have sustainable impact on the stock prices. The market pendulum has tested both the extremes in the past seven months. A major surprise, positive or negative, or a black swan event, may only cause the market to breach these extremes in the next 6-8 months.

The most probable scenario for the next month is that the market swings get incrementally shorter in the next 9 months, as additional evidence of earnings recovery and improvement in the macroeconomic conditions emerges. We may also have more clarity on the global economic and geopolitical conditions in this period. In my assessment, for most of the time in the next 9 months, Nifty may oscillate between 22500-24500 (with occasional excursions outside this range) and find a sustainable pivot around 23500-24000 level.

A new market cycle might begin, once the market stabilizes around the equilibrium level and more credible assessments are available about the future earnings trajectory and macroeconomic growth and stability.

 

More on this next week.

Loving silver on my scalp

A friend recently remarked, “I don’t want to be young for the first time in my life”. He was alluding to the challenges Gen Z (born between 1997-2012) and Generation Alpha (born after 2012) children are likely to face in the coming years. I fully agree with him. The silver on my scalp gives me comfort that a relatively well lived life may end as comfortably for me, and many people my age. But young people in their 20s have no such comfort.

The people in their late twenties have already stood witness to three massive economic/market crises (dotcom burst, subprime burst and Covid-19 pandemic) that (i) were not caused by a war or natural disaster; (ii) did not cause human suffering which was anywhere closer to the crises witnessed during 19^th and 20^th centuries; and (iii) were brought under control through monetary and fiscal stimuli within a short period of time.

In the past twenty-five years, the governments across the world have increasingly become more socialist. While serving the interests of crony capitalists, they have made sure to provide basic necessities of life to the common people – not only in their jurisdiction but much beyond it. The central bankers across the world have remained accommodative – keeping the markets sufficiently liquid, and cost of capital low to fuel consumption, support higher asset prices and ensure availability of adequate risk capital to fund tech innovation.

This generation has mostly lived in low inflation, low interest rates, constantly improving productivity due to tech innovation, accelerating speed of everything, improving longevity, globalized economies, contained geopolitical conflicts, and an environment promoting individualism against the spirit of society. Accordingly, this generation carries a strong faith in the central bankers, governments, technology, medicine, and mobility. Personal savings, family, austerity, tolerance, sacrifice, social ethos, patriotism are only a few of the concepts this generation may not be sufficiently versed with.

A famous Chinese curse goes, “May you find what you wish for”. The Gen Alpha, perhaps is affected by this curse. Riding the broomstick of unhindered aspirations, they feel entitled to get freedom, liberty, comfort and convenience, despite being mostly selfish in their approach towards society in general. They take peace and society support for granted. The very freedoms and comforts this generation seek might become their undoing, as they may not be adequately prepared for tougher times.

The events of the past few years are suggesting that things may change rather dramatically for this generation in the coming decade.

·         The governments are increasingly acquiring parochial character. The focus is evidently shifting to retraining fiscal profligacies. Frugal governments mean the younger people might have toll hard to make a living for themselves. This will happen when the technological developments would have eliminated most of the jobs requiring unskilled or semi-skilled workers.

·         The central bankers, as evident from the recent Fed commentary, have developed the fear of the endgame of this unmindful monetary expansion. Cheap and abundant money may not be available to fund redundant fancy tech innovations.

·         The efforts of the government to define the narrower contours of personal freedom and liberties are also conspicuous from the US to India. Conforming to social norms may become essential for survival, if this continues like this.

·         Excessive use of chemicals and changes in lifestyles have severely affected the procreation capabilities of both men and women, adversely affecting the demographics. “Not having family” may soon become a disease rather than an option.

·         Climate change may make food and water scarce for more than half of the world.

·         Ultra nationalism may trigger a war, for which not many youths would be prepared. This could lead to several times more lethal digital, chemical and even nuclear attacks. The misery that would follow is unfathomable. Of course it is the worst-case possibility, not a baseline assumption.

I am certainly not suggesting an end of the road for Gen Alpha. I am just expressing my sadness for the fact that my children may have to learn a few life lessons rather painfully.

I am confident about the capability of the young generation to quickly adapt to the changing environment. Gen Z and Alpha have grown up with smartphones, not stability—they’re naturally used to disruption. They might lack the thrift or stoicism of boomers, but they’ve got agility and a native grasp of systems (tech, social, political) that could see them through. I am sure the pain would forge something new, not just break them.

I would be keenly watching the developments in the areas of food and water; particularly, how the food production shifts from the farms to factories.