Lehman Collapse: Six Years on India Still Feels After-Effects

September 15, 2008 is etched in the memories of investors worldwide. On that Monday, Lehman Brothers - then the fourth largest investment bank in the US - filed for bankruptcy protection after failing to find a buyer.

Lehman Brothers had assets and debt of over $1 trillion (nearly half of India's current GDP) and it went down as the biggest bankruptcy case in history.

The Dow Jones index in the US plunged over 500 points (over 4 per cent) on September 15 in its worst point drop since the September 2001 terrorist attacks. There was mayhem across global markets, too.

Within three months of Lehman's collapse, the BSE Sensex crashed to 8,535 in the wake of global finance crisis, plunging 60 per cent from around 21,000 levels in January 2008.

Among Indian corporates, ICICI Bank was the hardest hit. Though ICICI Bank's exposure to Lehman Brothers was miniscule, customers rushed to withdraw money on rumors that the bank was in trouble.

Six years on, some of the legacies of Lehman's collapse still remain in the economic system:

1) Short-term interest rates in the US continue to be near zero and the US Federal Reserve continues to buy billions of dollars' worth of bonds. This liquidity has fuelled a record-setting rally in Indian stocks.

2) India's GDP growth fell sharply to 6.72 per cent in 2008-09 from 9.32 per cent in the preceding financial year. India has not been able to achieve 9 per cent GDP growth since the Lehman collapse.

3) Since 2008, the government resorted to massive increases in public outlays to push growth. It also cut taxes, widening the deficit. This resulted in higher stimulus-fuelled growth in the short term but could not be sustained in later years. After growing at 8.6 per cent in 2009-10 and 8.9 per cent in 2010-11, India's growth slowed down to a decade-low of 4.5 per cent in 2012-13 as stimulus measures and tax incentives were rolled back. Last fiscal, growth improved to just 4.7 per cent.

4) The tax cuts and higher spending in late 2008 led to a worsening of public finances. India's fiscal deficit climbed to 6 per cent of GDP in 2008-09 and 6.5 per cent of GDP in 2009-10. In April 2012, global ratings agencies Standard & Poor's and Fitch cut their outlook on India to negative citing high deficit. While Fitch Ratings returned India's sovereign outlook back to stable from negative in 2013, S&P continues to retain its negative outlook on India.

5) India's current account deficit also worsened progressively, in part because of the economic policies pursued between 2008 and 2011. This pressured the rupee, which hit a record low of 68.85 per dollar in August 2013. The rupee has since recovered, but it continues to trade above 60 per dollar, a far cry from 45-46/dollar in the pre-Lehman era.

6) The Reserve Bank cut interest rates six times between October 2008 and April 2009 in a bid to boost liquidity in the Indian economy. But the RBI tightened slowly, not raising its policy rates until March 2010. This artificially buoyed demand and stoked inflation. Retail inflation has constantly remained between 8 per cent and 12 per cent since 2008-09 forcing the central bank to adopt a hawkish policy since September 2013 even at the cost of hurting growth.

(Data from Planning Commission)