Rajesh Kumar Singh New Delhi

SURGING capital inflows, booming stock markets and a fast-appreciating currency suggest the India story is again shining after a dismal 2011.

Dig a little deeper, and problems afflicting Asia’s third-largest economy remain largely unabated and unaddressed. Inflationary risks remain and a political logjam continues to hem in reforms, clouding the economic outlook.

“Nothing has happened on the policy front to justify this mood,” said Andrew Kenningham, an economist at Capital Economics in London.

“Growth prospects are not looking good by historical standards.”

New Delhi yesterday cut the growth estimate for the current fiscal year that ends in March to 6.9 percent from a revised forecast of around 7.5 percent issued in December, sharply below the 8.4 percent growth of the last fiscal year.

Still, the benchmark stock index is up nearly 15 percent this year while the rupee has risen about 8 percent from its 2011 close, with both clocking the sharpest gains in more than a decade.

An improved global funding environment, relatively attractive valuations of Indian equities and hopes for rate cuts by the Reserve Bank of India (RBI) have lured foreign institutions. They are net buyers of $3.2 billion (R24.2bn) of Indian equities this year after having sold $357 million last year.

“The rally at this stage may be more a reflection of foreign portfolio flows and an appreciation of the rupee,” said Sanjay Sinha, a veteran fund manager who founded Citrus Advisors, an investment advisory firm.

“This in itself may be in an anticipation that the twin factors of a rate cut from April and bold economic policies may actually herald the resurgence of the economy. Therefore, data may follow but the markets may have rallied ahead of them.”

Valuations at the end of 2011 were 12-13 times estimated earnings for the fiscal year that ends in March 2013, compared with a 10-year average of 15, said Rakesh Arora, managing director at Macquarie Equities Research in Mumbai.

The RBI has signalled that it is finished raising interest rates after 13 increases between March 2010 and October 2011, to the relief of companies and banks.

The rupee’s recovery has been fuelled in part by measures the central bank took to stabilise the exchange rate.

Macroeconomic indicators are recently looking better.

Industrial output has recovered from a record slump and the manufacturing and services sectors continue to pick up pace. Inflation slipped below 8 percent for the first time in two years in December and is on track to fall to the central bank’s 7 percent target by the end of the fiscal year.

Many India watchers warn the euphoria is premature.

Inflation is indeed down smartly, falling to a two-year low of 7.47 percent, but that is due almost entirely to a drop in food inflation that is widely seen as unsustainable.

Non-food manufactured inflation eased by just 0.2 percentage points from 7.9 percent in November to 7.7 percent in December.

All of this means that the RBI may not be in a hurry to slash interest rates.

Public finances remain strained. Central bank governor Duvvuri Subbarao urged New Delhi last month to adopt greater fiscal discipline, saying a lack of credible fiscal consolidation would constrain it from lowering rates.

The global picture remains mixed. While improving prospects in the US have driven optimism, most recently in a better-than-expected jobs report, the ongoing euro zone debt crisis weighs on sentiment and puts pressure on India’s exports. – Reuters