Do not fear the sequester, fear the recovery.

Unable to agree on taxes and cuts to government spending the US has enacted what is known as " sequester ", where compulsory cuts of $85 billion went into effect on 1 March. For a $15 trillion economy a reduction of $85 billion is really peanuts but over a period of time these cuts will have a multiplier effect. As salaries are delayed and national parks close consumer spending will gradually fall which will impact retail and other industries thus intensifying the effects. The good thing for India is that imports from China may fall causing real harm to that economy, hopefully leading to internal strife and civil war. The bad thing for us is that our meager exports will also be hit and foreign investment will fall. The Federal Reserve in the US has resorted to tremendous monetary easing to kick start the economy, pouring money to buy up government bonds and mortgage backed securities. With interest rates at 0% and house prices still cool avenues to investing in the US are limited so investments funds have pumped in $30 billion in Indian stock market since the beginning of 2012. Although the sequester has so far not had any effect on our stock market there are fears that a prolonged paralysis in the US could ultimately result in less money flowing into India with a consequent fall in share prices. " At the outset, it looks like this can impact the flow of FII money into the Indian market," said Arun Kejriwal, Director of an investment advisory firm, KRIS. TOI, 4 March. That maybe true but what they should be really terrified about is what happens if the US politicians are able to solve their differences and are able to agree on gradual reduction in government spending with increasing the revenue base. Once an agreement is in place the US economy will start to improve and inflation, due to years of loose monetary policy, will start to rise which will cause the Fed to start tightening. The Dow is flirting with the 14,000 level and is looking to break the record. Once that happens US funds will withdraw money from risky emerging markets to get better returns from the safety of home markets. Trouble is that the Indian government is using the investment dollars to reduce its Current Account Deficit and if there is a sudden outflow of foreign money our CAD will rise precipitously, the rupee, which is already weak due to inflation, will plunge and inflation will soar. The looming elections in states this year and the general elections in 2014 means that the Congress is locked into a high spending / high deficit mode and will be completely helpless should this happen. Thus, we should not fear the sequester but the eventual recovery in the US. Hopefully, it will kill off the Congress.