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June 09, 2009

Why a relapse in 2010 is a given

In his column for the Economic Times, Morgan Stanley's Ruchir Sharma explains why the structural issues relating to the "over-indebted US consumer and the export-dependent Chinese manufacturer" will come back to haunt the global economy in 2010, by which time the impact of the government spending plans will wear off.
The path then for equities in the short-to medium-term is likely to be quite jagged. The current economic momentum inspired by government spending will likely keep financial markets well-bid for much of this year but the environment will be more challenging next year as the debt-impaired private sector’s contribution to economic growth continues to remain anaemic at best. Meanwhile, governments will not be in a position to provide any major fresh stimulus, given the poor state of their finances.

...Another risk to an economic upturn materialising in 2009 is a premature resurfacing of inflation . Some investors have been buying “hard assets” , or commodities, in the belief that the loose monetary policies followed by central banks across the world will do more to reignite inflation than revive economic growth. It is highly unusual for commodity prices to be rallying sharply — as they have been over the past few weeks — so early in an economic expansion. They tend to perform well at the late stages of an economic cycle when growth is overheating. The recent price action in commodities essentially reflects a loss of confidence in paper money as the demand and supply fundamentals don’t justify the recent uptrend. If the price of oil were to rise much beyond $70 a barrel in the immediate future, it would defeat all the stimulus efforts as the increase would act as a tax hike on consumers.

Barring any such major setbacks, involving bond yields and oil prices spinning out control, a cyclical bull market should continue to take shape this year followed by a relapse in 2010. The implication for emerging markets such as India is that they are likely to oscillate in a broad trading range around the long-term trend line over the next couple of years. Hopefully by 2011 enough time would have lapsed for the private sector in the developed world to get its leverage ratios in more decent shape and for emerging markets to evolve their economic models to become more robust on the domestic demand front. Such structural changes would allow a meaningful global economic expansion to take hold. That in turn would herald a truly new secular bull market.

Arun Natarajan is the Founder & CEO of Venture Intelligence, the leading provider of data and analysis on private equity, venture capital and M&A deals in India. View free samples of Venture Intelligence newsletters and reports. Email the author at arun@ventureintelligence.in