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Economic Survey 2018 hints at stock market bubble

Dipak Mondal     January 29, 2018

Chief economic advisor (CEA) Arvind Subramanian has hinted at a bubble kind of situation in the stock market and called for heightened vigilance.

Speaking to media after presenting the Economic Survey Report, the CEA said, "We have seen around the world that when asset prices go up very much, they always tend to come back and so we have to be watchful. The higher the prices go, I think our vigilance should increase correspondingly."   

The economic survey report re-iterates this fear. The report notes that markets expect rapid growth, triggering the run-up in stock prices. However, it warns of the risks that the economy faces and therefore, asks for exercising caution.

Explaining the run-up in stock prices, the survey report says that expectations of earnings growth are much higher in India.

"Indeed, it was such expectations that lie at the origin of the stock market boom. In early 2016-17, signs emerged that the long slide in the corporate profits/GDP ratio might finally be coming to an end. Investors reacted to this news with alacrity, bidding up share prices in anticipation of a recovery they hoped lay just ahead. Accordingly, the ratio of prices to current earnings rose sharply."

The CEA further explained that due to steps taken by government against illicit wealth over the past few years-exemplified by demonetisation-has in effect imposed a tax on certain activities, specifically the holding of cash, property, or gold. "This has resulted in reallocation of portfolio towards equities, pushing the stock market."

The report also points to anomaly between the US and the Indian stock markets, which have traversed the same path despite contrasting macro-economic situations in the two countries.

It points out the stock market surge in India has coincided with a deceleration in economic growth, whereas US growth has accelerated, India's current corporate earnings/GDP ratio has been sliding since the Global Financial Crisis, falling to just 3.5 per cent while profits in the US have remained a healthy 9 per cent GDP. It also says that over the period of the stock market boom, while the US real rates have averaged -1.0 per cent, in India the real rates have been 2.2 per cent.


 


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