GDPnumbers,YieldmovementandSimonKuznets

As we track the GDP numbers from across the world, Australian GDP shows a 7% decline for Q2 2020 on a QOQ basis and -6.3% on the YOY basis. This number follows the Indian number released on Monday where it showed a close to 24% drop for the second quarter on a YOY basis. With the pandemic breathing fire, all economies have shown GDP contraction with the UK and US showing close to 20% and 9% negative growth respectively for Q2 2020.

With GDP being the defining number for world economies and also the focal point of the kind of responses on order either from the fiscal one from the government or the monetary one from the central bank, it is important that we take a small detour here to understand a bit of history. Here the book The Little Big number by Dirk Philipsen is an instructive one. Philipsen writes that though the efforts to calculate national wealth were made during historic times, the first systematic attempt was made in the 1930’s in the USA by Simon Kuznets amid the crisis of the great depression. Kuznets first produced the national income accounts for the US government. The idea was to produce a metric through which the government can identify the efficacy of the welfare programs which it was running. It is understandable that in the absence of any clearly defined metric any intervention can neither be a success or a failure. Kuznets submitted his report in 1934, on which many of the “new deal” policies were formulated. But the very fact that all the economic activities can’t be reduced to a monetary value presents a big flaw in the calculation of GDP. Many important activities appear as unpaid labour and are hence not included in the calculation. This flaw was identified and accepted by Kuznet himself as he later dubbed the GDP at best an incomplete measure.

Ambiguity apart, what we can now expect, as in the Great Depression years, that the world economy is in the midst of a crisis and the policy makers will look up to the GDP number as a guiding light. In India we see that the government is allowing economic activities to restart/reopen even when the infection numbers are rising. Readers can identify this as an imperative to address the contracting GDP issue.

In other news, the dollar index is back above 92.3 levels after hitting a 28 month low level yesterday. The euro is back to 1.19 levels. The rise in the euro can be seen as the adjustment pertaining to the Fed talk of a prolonged low interest regime announced last week. With negative interest rates in the Eurozone there was a variation of carry trade in play until now, which lead to dollar buying against the euro. That play is now getting unwound. The fact that US senators are still not able to decide on the second version of the relief package also plays its role. We expect that the situation will be in a state of flux until the US elections play out in November.

Domestically, the big news on the rupee has been the absence of dollar buying by the important players allowing it to find its market determined level. The constant FPI flows have added to dollar liquidity. The news on the border conflict presented some issues but was largely overshadowed by the healthy dollar supply. An appreciated rupee also helps to keep the imported inflation down helping the central bank in its quest to control inflation.

But the major development off late has been on the bond side where the measures announced by the RBI on Monday had a strong positive effect on market yields. The 10 year yields dropped by close to 15 bps yesterday. The combined effect of fresh OMOs of 20k Cr INR, term repos of 100k Cr INR and the increase in HTM limits for the new issuances have convinced the markets that the central bank is resolved to keep the government borrowing cost low.