Britain and India on Wednesday woke up to a rude shock as the former’s economy fell back into recession and Standard & Poor’s cut the credit rating outlook of Asia’s third largest economy to negative from stable.
India has no sovereign global bond issues, but a downgrade would increase borrowing costs for local companies and make it harder to refinance debt, and may have a further chilling effect on foreign investor confidence in the country in general.
Britain’s gross domestic product (GDP) contracted 0.2 per cent between January and March, following a fall of 0.3 per cent in the fourth quarter of 2011, the Office for National Statistics said. A recession is defined as two successive quarters of GDP contraction.
“We are in a difficult economic situation in Britain,” Prime Minister David Cameron said in reaction to the data.
The second recession since the financial crisis after a shock contraction at the start of 2012 heaped pressure on Cameron’s government as it reels from a series of political missteps. With local elections taking place on May 3, there could hardly be worse timing for Wednesday’s news.
Output in Britain’s services sector — which makes up more than three quarters of GDP — rose a smaller-than-expected 0.1 per cent after a drop in financial services output. Industrial output was 0.4 per cent lower after a sharp fall in oil and gas extraction, while construction contracted by three per cent, the biggest fall since the first quarter of 2009.
Most economists had expected the UK’s economy to eke out modest growth in early 2012, but these forecasts were upset by the biggest fall in construction output in three years, coupled with a slump in financial services and oil & gas extraction.
Cameron insisted that such austerity was vital to keep state borrowing costs low, preserve Britain’s top AAA credit rating and avoid a sovereign debt crisis that has crippled the eurozone, of which Britain is not a member.
“More borrowing, more spending more debt, that is what caused these problems. It cannot be the solution to these problems,” the Conservative leader insisted. “We must not put at risk the low interest rates that are absolutely essential to our recovery ... These are difficult decisions to get on top of debt and public spending but they are the right decisions,” he added.
The figures pose a conundrum for the Bank of England, which had appeared poised to end its second round of quantitative easing asset buying, having said that it was more persuaded by survey evidence that the underlying economy was strengthening.
Meanwhile, Standard & Poor’s downgraded India’s credit outlook to negative as a weakening economy and gaping fiscal deficit put the country’s prized investment-grade rating at risk.
The agency maintained India’s rating at BBB-, but warned it faces at least a one-in-three chance of losing its status if its financial situation worsens. The “BBB-” is one notch above “junk,” which carries an increased risk of default and would see India having to pay higher interest rates on its public borrowing. — AFP, Reuters
“The outlook revision reflects our view of at least a one-in-three likelihood of a downgrade if the external position continues to deteriorate, growth prospects diminish, or progress on fiscal reforms remains slow in a weakened political setting,” S&P credit analyst Takahira Ogawa said in a note.
The high cost of oil along with soaring gold imports drove India’s current account deficit to its widest in eight years in the 2011/12 fiscal year which ended in March, according to government forecasts, or four per cent of GDP, up from 2.6 per cent in the previous fiscal year.
Meanwhile, India’s fiscal deficit swelled to about 5.9 per cent of GDP in the fiscal year that ended in March, far above the government’s 4.6 percent target.
Many economists believe New Delhi will have a tough time hitting its target of cutting the deficit this fiscal year to 5.1 per cent of GDP, given a hefty subsidy burden and a weakened government that has failed to push through significant reforms.
S&P’s negative outlook came as Moody’s Analytics, part of credit analysis giant Moody’s Corp, said India’s economy was growing well below potential.
“The government has lost all momentum” on economic reforms, Glenn Levine, senior economist at Moody’s Analytics, said in an investor note. — AFP, Reuters
The slump in construction and anaemic services growth contradicted more upbeat news from business surveys, prompting many economists to voice doubts about the quality of the official data and echoing those that have previously been expressed by the Bank of England.
Nevertheless, the figures triggered immediate attacks on the government from the opposition in parliament, while Cameron said the figures were “very, very disappointing”.
“Just as you see now recessions in Denmark, in Holland, in Italy, in Spain, that is what is happening in the continent that we trade with. What is absolutely essential is we take every step we can to help our economy out of recession,” Cameron told parliament.
Britain’s Conservative-Liberal Democrat coalition has seen its support crumble after weeks of criticism over unpopular tax measures in last month’s budget, and is under further pressure from revelations about its close links with media tycoon Rupert Murdoch.
The government desperately needs growth to achieve its overriding goal of eliminating Britain’s large budget deficit over the next five years. But this will be a challenge as many of Britain’s European trading partners are already in recession.
Benchmark S&P 500 index rises 1.8 per cent
Spot gold was trading at $1,785.82 per ounce at 9.20am UAE time
Spot gold was trading at $1,771.62 per ounce, down by 0.2 per cent at 9.15am
Analysts and forex experts caution that the political instability will continue to weigh on the rupee's future and may slow the recovery pace in coming days