Strong economy to help India ride global financial crisis: World Bank

Washington, Oct 23 (IANS) India will be affected by the global financial meltodwn but strong fundamentals and a pro-active monetary policy management will possibly allow it to ride the crisis, a World Bank study says.

In South Asia, 'the largest economy, India, is relatively more exposed to the contagion effects of global financial markets through adverse effects on capital flows from portfolio and direct foreign investments,' said the study on 'Global Financial Crisis: Implications for South Asia'.

It would also be affected 'through exposure of domestic financial institutions to troubled international financial institutions and to contracts - including derivatives -that have undergone large value changes,' it said.

'The evidence so far shows significant losses in the stock market and a reduction in the flow of foreign capital.

'Yet these risks are countered by a fundamentally strong macro economy including prudent foreign debt management, high savings rate, solid financial sector health, and a pro-active monetary policy management that will likely allow India to ride the crisis without destabilising the financial sector.'

In this context, the study mentions the swift action of the Reserve Bank of India in injecting extra liquidity into the financial sector, and raising the limit on private foreign borrowing, adding that the global financial crisis is still evolving and there is a significant risk of further slowing down of net capital flows.

The recession in the Organisation for Economic Cooperation and Development (OECD) countries will almost certainly lower the export prospects for all South Asian countries, but especially India that has done remarkably well in the services sector and now faces a sharp slowdown in demand, the Bank said.

Foreign remittances from OECD countries too can be adversely affected, the study said suggesting, 'India and Pakistan are particularly exposed to this slowdown. However, on balance the downside risk of substantial lower earnings from remittances appear low.

India's prospects will be hurt by the reduction in capital flows and possible slowdown in the growth of exports, it said noting, 'Pakistan's economy is already facing difficulties; the financial crisis will aggravate it.'

Pointing out that the global financial crisis is hitting South Asia at a time when it is already reeling from the adverse effects of a severe terms-of-trade shock, the study said, 'Countries have responded by partially adjusting domestic fuel prices, cutting development spending and tightening monetary policy.

'The adverse effects of these terms of trade losses have been substantial, reflected in a slowdown of growth, worsening of macroeconomic balances and huge inflationary pressures,' it said.

'The global financial crisis will likely worsen these trends, particularly on the growth and balance of payments front,' the study said.

'Slowdown in global economy will adversely affect South Asian exports and could hurt income from remittances. Lower foreign capital flows and harder terms will reduce domestic investment. Both will lower growth prospects.

'The reduction in global petroleum and food prices observed over the past few months provides a silver lining for South Asia in an otherwise difficult external environment,' the study said.

'Yet this silver lining is now heavily clouded by the emerging global financial crisis that poses tremendous downside risks to South Asia.

'These risks can transmit from both the financial sector in terms of volume and price of foreign capital flows as well as from the real sector based on adverse effects of a global slowdown on South Asian exports, possible downward pressure on remittances, and slowdown in private and public investment owing to higher interest rates as well as lower export demand,' it warned.