Analysis: War Drums Add to Economy Anxiety

Analysis: War Drums Add to Economy Anxiety

The worsening sentiment can slow down GDP growth even further, although election spending usually buoys the GDP

Ajit RanadeUpdated: Tuesday, April 16, 2024, 03:50 AM IST
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Representative Image | Pixabay

For the first time in 33 years, a foreign nation state attacked Israel on Saturday, April 13. The last time was when Israel was attacked by Iraq with Scud missiles in 1991. This past weekend it was Iran that launched more than 360 missiles and drones aimed at different points in Israel. It was a combination of slow-moving drones, which take more than six hours to go from Iran to Israel, faster moving cruise missiles and very high-speed ballistic missiles that travel faster than sound. The foreign minister of Iran had given a 72-hour warning to neighbouring countries about this planned attack on Israel. In turn, Israel managed to intercept almost 99% of the missiles and drones, and hence there was not much damage. This was made possible because of the sophisticated anti-missile defence system, the Iron Dome, built by Israel with American and British help and was deployed this time on Jordanian soil as well.

For those few hours of defence, the estimated cost was about 1.1 billion dollars. The defence suppliers, mainly American companies stand to benefit from such deployment. Of course, American makers of weapons systems have already immensely benefited from the ongoing war in Ukraine too, which started two years ago. The cost to Iran is also probably close to a billion dollars for that night of drones and missiles.

The attack by Iran was in retaliation to the April 1 attack by Israel on the Iranian embassy in Damascus, Syria, which killed two of its senior generals. Why did Israel, or rather its Prime Minister Benjamin Netanyahu, authorise this unprovoked attack, that too on a diplomatic target? Was Israel seeking to widen the scope of the conflict with Hamas, and draw in other players into an escalating war? Did it not know that its action on Iran’s embassy would invite a retaliation? Or did it misjudge the strong reaction by Iran? Sympathisers would argue that Israel’s action was not unprovoked. It was to punish those supporting Hamas within Israeli territory. Iran’s tacit support to Hamas within Israel, Hezbollah in Lebanon and the Houthis in Yemen is well known. Israel has attacked Iran’s infrastructure and military sites in the past, in order to thwart the latter’s nuclear programme as well as in retaliation for support to Hamas and Hezbollah. Iran too has kept up the momentum in building its nuclear weapons capability. Israel is of course a nuclear armed nation that has not signed the Non-Proliferation Treaty.

The failed drone and missile attack was played as the beginning of World War Three on some television and social media channels. Stock markets responded in panic. The Dow index of New York fell by 2.4% on Friday itself in anticipation of Iran’s retaliation. Further crash in stocks is expected worldwide. The price of gold has shot up to an all-time high and is nearing 2400 dollars per ounce. It might soon cross Rs 80,000 for 10 grams in India. The high demand for gold is the instinctive rush by risk averse investors fearing all other assets will crash. Since this conflict will disrupt supplies from the Middle East, oil prices will surely rise. There will also be an increase in risk premium for freight rates and air cargo which in turn will increase the cost of international trade. That adds triple pressure for India. It depletes our foreign currency reserves, widens the trade deficit putting pressure on the exchange rate, and can cause inflation to rise, as petrol and diesel prices will be affected. The fourth quarter ending in March, had seen a slowing down, and GDP growth rate for that quarter could be closer to 6%.

The worsening sentiment can slow down GDP growth even further, although election spending usually buoys the GDP. The merchandise exports will be adversely affected if global economic sentiment takes a dive. As such the disruption in the trade route of the Red Sea due to attacks by the Houthis has increased the cost of sea borne trade. That too is a negative for international trade. The news from retail inflation is not comforting and can become worse due to oil prices. That is why the Reserve Bank of India cannot cut interest rates, which could have helped housing and vehicle loans.

And finally, there is unemployment news. The recent report published jointly by the International Labour Organisation and the Institute for Human Development painted a grim picture of youth unemployment, skills mismatch, and still low female labour force participation. The gender gap in India, in terms of differences in labour force participation and the wage rate of males and females, since 2005 has been widening, not narrowing as seen in other parts of the world. To add to this, post covid, an estimated 50 million workers have gone back to agriculture, which provides low productivity and low-quality jobs, and also under-employment. The improvement in the employment scene requires massive job creation which will mainly come from the private sector. That requires investor confidence and large-scale fund flow into new ventures, businesses and enterprises. Government spending alone cannot provide large scale job creation.

The increased uncertainty due to tension in the Middle East is good news only for defence supplies manufacturers. For most others it spells economic bad news. Iran’s attack has not been condemned by China or Russia, both members of the Security Council. Repeated resolutions in the United Nations, asking for Israel to cease bombing Gaza have been vetoed by the United States, the sole dissenter. Israel’s retaliation to the October 7 terrorism attack by Hamas is now shockingly disproportionate, having killed more than 30,000 Palestinians, mostly civilians, including women and children. But there is no end in sight for Gaza attacks by Israel just as there is no end in sight for the bombing in Ukraine. The war clouds just keep getting thicker and darker. And the warmongers have so far out-shouted those pleading for peace. The leaders have failed to bring any sanity, leave alone ceasefire or peace talks. All this does not bode well for the Indian economy, which has already been struggling with the challenges of inflation, stagnant private investment, high youth unemployment and widening inequality.


Dr Ajit Ranade is a noted Pune-based economist. Syndicate: The Billion Press (email: editor@thebillionpress.org)

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