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Recent political events indicate emerging weaknesses not only in the ruling Bharatiya Janata Party (BJP, which heads the coalition National Democratic Alliance (NDA) government), but also weaknesses in the authority of PM Vajpayee. For a party that prides itself on its unity and commitment to a common ideology, the Hindu-based BJP has in the last few weeks been witnessing far too many rifts amongst both its senior and second rung leaders. Rifts have also been evident amongst close allies such as the Samata Party. At the heart of the latest political infighting lies the postponement of the disinvestment of Public Sector Undertaking (PSU) oil companies, HPCL and BPCL - on the grounds that oil is a 'strategic' sector and that its privatisation must be 'carefully considered'. Even PM Vajpayee has been unable to persuade his senior colleagues to adopt a rational view on the matter.
While Disinvestment Minister, Arun Shourie, will continue to lobby for a resumption of the disinvestment policy, the bigger problem stems from the NDA's external image. Until now, disinvestment was the primary - perhaps the only - feather in its cap. With the possibility of missing this year's disinvestment target (Rs 12 billion) becoming real, the government risks providing further ammunition to an opposition out to prove that the NDA is an ineffective coalition.
The government is also facing challenges on several other fronts. First, on the heels of a relatively peaceful election in Jammu and Kashmir, an audacious terrorist attack - this time on a Hindu temple in Gujarat – may re-ignite communal tensions and lead to a further deterioration in relations with Pakistan. Although PM Vajpayee is trying to defuse the situation in Gujarat, the position of his government is unclear. This has given Hindu fundamentalist organisations, such as the Vishva Hindu Parishad (VHP) and Biju Janta Dal (BJD), an opportunity to assert themselves by seeking a complete closure of business and trade in Gujarat and major cities such as Mumbai and Delhi. This has been partially successful.
Secondly, although it now appears reasonably certain that the 'failed' monsoon will not have the kind of adverse impact on the economy as was earlier feared, it remains a significant factor. Rural spending may fall temporarily with indications of an increase in gold holdings (effectively savings) in rural India as traders and wealthier families become more cautious. However, inflation will remain stable and food output levels will not be dramatically affected. The Agriculture Ministry estimates that the 8-12% drop in summer season output is likely to be at least partially offset in the winter season. The true impact on income levels will only become evident when festive season sales commence next month.
Thirdly, the main threat to the industrial recovery process underway (indicated by early signs of a steady growth in basic and capital goods production) stems from international oil prices, which seem set to rise beyond US$30-35 per barrel on the back of US-Iraq tensions. If they remain high for more than 4-6 months, negative expectations and higher input costs could undermine the manufacturing sector's recovery. Moreover, consumer spending would be affected as domestic fuel prices have now been de-controlled to move in tandem with international trends. A medium-term outcome might well be that the Reserve Bank of India will step in with import controls and a partial reversal of capital account convertibility.
Finally, almost immediately after the disinvestment setback, Standard & Poor downgraded India's internal debt rating from 'investment grade' to 'junk'. While the capital markets shrugged this off almost immediately (no other rating agency has followed suit so far), the business community, in general, has reacted negatively to the postponement of oil sector disinvestment.
WATCHPOINT: US-Iraq tensions generating an oil price above US$30 per barrel will threaten industrial recovery and capital account convertibility, and will impact on a weakening government beset by rising communal tensions.
About our company:
AFG Venture Group is an Asia and Australia based corporate advisory and consulting firm with over 20 years experience in creating alliances, relationships and transactions in Australia, South East Asia and India; including a 15 year history of corporate and equities advisory in Australia, undertaking merger, acquisition, divestment, fund raising and consulting for private and public companies.
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