Is the economy sick?

The Modi government’s policy is choking domestic demand at a time when global demand is also weak. This is hardly a recipe for double-digit growth.

December 31, 2015 12:58 am | Updated March 24, 2016 12:55 pm IST

The title seems provocative. After all, for the last several months, we have all heard that India is now the fastest growing large economy in the world. The Finance Minister keeps assuring us that the country’s economic revival is on a firm footing and that India is “witnessing significant macroeconomic stability”. The Prime Minister’s Make in India initiative, the JAM (Jan Dhan, Aadhaar and Mobile) trinity as well as the government’s emphasis on ease of doing business are supposedly game changers. One gets the feeling that the Indian economy is turbocharged and major progress is around the corner. Yet, there are also reports of many economists and analysts indicating that economic growth doesn’t “feel” that robust. So, something doesn’t “feel” right and this “feeling” isn’t going away. When things don’t “feel” right, perhaps we are dealing with some sickness.

Before we proceed further with the diagnosis, let us understand the counterfactual. In other words, what does good economic health look like? For this, let us turn back the clock just a little bit. I reviewed data for 2005-06 to 2010-11, a six-year period when economic growth averaged almost 9 per cent per year. By drawing a contrast with economic conditions then with the current situation, we may get a sense of what, if anything, is leading us to “feel” that everything is not well with the economy today.

Six years of sunshine Let’s get straight to the big numbers. In that six-year period, India experienced an average GDP growth rate of about 8.8 per cent. In four out of six years, GDP growth exceeded 9 per cent. Only in 2008-09, a year associated with the global financial crisis, did growth fall below 8 per cent. These high growth years also saw high savings and investment ratios. The savings/GDP ratio averaged 34 per cent and the investment ratio (gross capital formation/GDP) averaged 36 per cent. In addition, exports grew at an annual rate of 21 per cent and imports grew at an even higher rate of 23 per cent, reflecting robust demand both in the domestic and external markets. The fiscal deficit averaged 4.5 per cent of GDP and the current account deficit was about 1.9 per cent of GDP. This is roughly the same time period in which India reduced the number of people living in extreme poverty by almost 130 million. Those six years were terrific. India was doing exceptionally well and, along with China, provided support for the global economy in the aftermath of the 2008 crisis.

Fast forward to the present. Since the government revised GDP data, there is increasing talk of India’s emergence as the fastest growing economy. In a sea of global economic weakness, India is apparently a buoyant force. But there are murmurs that the economy is not as strong as the government would have us believe. What’s going on? Let’s again go straight to the big numbers. While growth rate was 7.3 per cent in 2014-15, various official estimates point to a growth rate of 7-8 per cent in 2015-16. But savings and investment ratios have dropped sharply to around 30 per cent. Export growth has declined sharply. From April to November 2015, exports have dropped by over 18 per cent. If this trend continues, 2015-16 will see the worst export performance for over 15 years. Import growth has also declined by double digits indicating lack of demand (and also falling prices of crude). The average fiscal deficit for the first two years of the Modi government is likely to be around 4 per cent with the current account deficit around 1.3 per cent of GDP. Without lower crude prices, these twin deficits would be higher, as would inflation.

With numbers such as these, it is no wonder that many are expressing concerns about the state of the economy. This is not all. There are reports of widespread rural distress, mixed performance of the industrial sector, continued problems in the banking sector and low private sector investments due to market uncertainty and stressed corporate balance sheets. With all of these factors forming the foundation of the economy, it is easy to see why something doesn’t “feel” right. In order for the economy to match its performance in the six years described earlier, a lot has to go right at a time when very few things appear to be going right.

A bridge too far One of the things highlighted by the government as a success is fiscal consolidation. That is a fancy term for lower fiscal deficits. The government’s fiscal deficit target for 2015-16 is 3.9 percent of GDP (slightly higher than the earlier estimate of 3.6 per cent). Some economists believe that the government must continue on this fiscal consolidation path to give “confidence” to investors that macroeconomic stability is of utmost importance. This is all very well if private investors were stepping in to invest and create jobs. However, as I have mentioned earlier, they are not doing that. So, the government is trying to increase public investment as a way of boosting the economy. This is excellent but not the full picture. The government’s own mid-term review concludes that “the positive contribution from greater public investment is offset by a combination of lower other expenditures and higher tax receipts”. This is in the context of lower minimum support prices, lower NREGA disbursements and a host of cuts in social sector expenditures. The review suggests that fiscal policy will be contractionary in 2015-16 compared to 2014-15 and has floated the idea of relaxing the fiscal deficit target.

In effect, government policy is choking domestic demand at a time when global demand is also weak. This is hardly a recipe for growing at double digits. The only thing that will grow in double digits is the frustration for millions of young Indians who won’t have the promised job opportunities. At a time when India should be aggressively going after a greater share of the global economic pie, we are seeking comfort in fiscal management. At a time when we should be promoting big investments in our food supply chain, we are choking off rural demand. At a time when we should be providing major incentives for our small and medium enterprises to modernise and compete globally and employ young people, we are adding to the tax burden of the common man who could become a source of demand for these companies. Our major corporations should be encouraged to invest at a time of global weaknesses so that when demand picks up, they are ready to take a bigger share.

But our government appears to have a vision deficit and a surplus of complacency that is bound to add to the “feeling” that things are not well. Having said this, I don’t believe the economy is sick. It is in a funk. It is the government that appears sick and in need of a fiscal deficit fever reducer.

(Salman Anees Soz, formerly with the World Bank, is a spokesperson of the Indian National Congress. Views expressed are personal.)

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