It is fascinating to make a comparative study of how the two Asian giants and neighbours, China and India, growth engines for the world economy in recent years, are battling the global economic and financial crisis. Latest projections by the IMF and the World Bank are for the world economy to contract by 1 to 2 per cent, for the first time in 60 years and global trade would be negative as major advanced economies are in deep recession in 2009 and growth would be marginal in 2010. Declining exports and fall in capital flows, job losses, weakening domestic demand and more downside risks with global recovery not in sight at least until 2009, have clouded the prospects for China and India for the next two years.

The implications are that both China and India, apart from the other Asian economies, exporting to the major developed markets, would have to focus on domestic demand and consumption. No wonder China's industrial machine has been battered and the first two months of 2009 recorded a decline of 3.8 per cent in manufacturing year-on-year and exports were down by 26 per cent. Emerging economies have turned out to be the most negatively affected from external financing constraints. These could affect financing of current account deficits, weak global demand and sharp downtrend in commodity prices.

Growth decelerates…

Growth rates for India and China have been sharply revised down by IMF/World Bank. India's growth is projected at 6.3 per cent in 2009 and 5.3 per cent in 2010. India, however, is confronting the global economic crisis from a 'position of strength.' China's growth has been lowered to 6.5 per cent from the earlier 7.5 per cent though, the World Bank says, the economy is holding up well. Weaker exports and decelerating market-based investment are depressing growth and affecting employment, especially in the manufacturing sector. China does not rely on external finance as much as trade; China would still have a current account surplus which will support the exchange rate. The pace of reserve accumulation has, however, slowed.

With all its strong fundamentals and its growth record in double digit for years with 13 per cent in 2007 (which came down to nine per cent in 2008),and a massive stimulus package of $ 586 billion launched in November last for two years (2009-10), China is trying hard to absorb the sudden shock for a booming economy. Premier Wen Jiabao has said China would do everything – including another stimulus – to safeguard its growth target of eight per cent it considers critical for employment and social stability. But the Bank says China should not worry about short-term moderation as it would still be higher than most other countries and any adverse consequences could be met via the social safety net.

The Bank notes China's strengths, especially the fiscal and macro-economic space it has to implement forceful stimulus measures. The earlier stimulus would help to dampen the downturn by supporting domestic demand, production and employment. China's banks have been largely unscathed by the international financial turmoil. While banks are keen to lend, they should not be pressured to increase lending beyond prudent limits. Looking beyond 2009, China is urged to consider policies for the longer term rebalancing of its economic structure

For India, fiscal space too limited

In India's case, unlike China, fiscal space is too limited and given the serious set back to fiscal consolidation and India, having one of the highest debt-GDP ratio (80 per cent), monetary and structural policies have to carry the burden of adjustment to the spillovers from the global downturn and financial turmoils. Commending RBI measures thus far, IMF says the key short-term objective would be to sustain liquidity and credit flows. Again, unlike China, India has depended to some extent on capital flows to balance current deficits but with intensification of global crisis, further capital outflows cannot be ruled out.

Corporate investment has so far driven growth but it would decline because of slowdown in domestic demand and tightening of financing conditions from foreign and non-bank sources. RBI's reduction of policy rates is not getting reflected in commercial bank lending rates and with falling inflation to below one per cent – and a threat of deflation – the real interest rate is higher. There is expectation of a further cut in key policy rates by RBI. India's financial system is well appraised abroad, even so, the banks, despite being wel-capitalised and liquid could become vulnerable to rising credit risks. Full disclosure of bad debts and recapitalisation where needed should be pursued along with reforms to strengthen the financial system.

New concerns...

IMF/World Bank appraisals, in the context of the G-20 Summit on 2 April, list new concerns for emerging economies as world crisis keeps intensifying, defying all unconventional monetary and fiscal measures employed in major developed nations. China and India would have to face prolonged pressures on capital inflows (including decline in FDI) and might have to extend support for companies unable to raise finance or roll over their debts with the risk of large-scale corporate failures. Monetary policy may need to support demand against risk of accentuating capital outflows, undermining financial stability. While such a contingency may not arise in any significant way for India, as things stand at present, IMF suggests countries to have contingency plans. This implies troubles with banks extending to corporate enterprises, which is happening in USA.

However, what applies to India to some extent is the risk for countries relying on cross-border flows to finance current account deficits or needs of financial or corporate sectors. India does have the cushion of foreign exchange reserves totaling $ 248 billion as on 13 March but the risks cannot be ignored.

Barring exports which ceased to soar, China's problems are more domestic, and it is a time of reckoning, which has given the push for a serious drive to rebalancing growth through greater consumption at home. Its stimulus plan seeks to promote consumption, especially rural, and priorities are to consolidate agriculture, restructure energy-intensive industries like steel, and advance reform on several sectors including health.

Strangely, India clings to the belief that its fortunes are tied up wholly with the global economy – swimming or sinking together – with the label of 'fastest growing free market economy.' China's openness, even if there are trade and exchange-related issues, are widely acknowledged and remains the vital factor for the world economy. It is the largest holder of US treasury securities ($ 727 billion till Dec.2008) and President Obama has assured their safety to Premier Wen Jiabao who voiced concern over asset security the way US economy has been dragged into the Great Recession.

Rich acquisitions abroad…

Remarkably, China is using the global downturn to make acquisitions abroad for oil and mineral resources not only in Africa and Australia but also in Latin America. Its deals so far are worth more than $ 50 billion to secure energy and other assets. To resist protectionism – whatever the subsidisation of its own exports which has hurt Indian manufac-turers – China signed up procurement deals with UK and Germany for aircraft equipment, automobile parts, machinery, textiles and electronics items, taking advantage of the plunge in air freight and shipping costs.

China's 2009 budget - with a small percentage of deficit for the first time as enterprise profits are down - embodies a pro-active policy for transforming the mode of growth and readjust the economic structure for the post-crisis era.

For India, fiscal and debt sustainability issues have come to the fore in the wake of the global crisis amid other political uncertainties surrounding the 15th Lok Sabha elections. All nations have been urged by IMF to provide for strong stimulus in 2010 as well while some quarters in India tend to look for recovery in the second half of 2009-10. Manufacturing and exports have been steadily on a sharp decline. Credit growth is lagging behind. The rapid fall in inflation, as in the rest of the world, may have raised the spectre of deflation. Tasks are clear for monetary policy and Governor Subba Rao has the last word now.