India’s economic growth is slowing but can the government bring it back on track? This is what Finance Minister Arun Jaitley reportedly discussed with ministers and officials Tuesday evening. While a concrete plan to address the problem is apparently being developed with Prime Minister Narendra Modi’s blessing, a section of the industry and many economists have criticised the government for not being prudent enough to read the distress signs and for treating the slowdown as temporary and transient.
The economy grew by a mere 5.7% in the quarter ended June 2017, extending the streak of falling growth to the sixth consecutive quarter. This has seemingly forced the government to go try and figure out what went wrong, and how it can be fixed. Distress signals, though, had been flashing for a while: in the first quarter of this financial year, growth fell to 5.7% as against 7.9% in the same period last fiscal year.
All four contributors to economic growth – domestic consumption, foreign consumption or exports, private investment and government spending – are hit by the slowdown. In the first quarter of this fiscal year, domestic consumption fell to 6.66% as against 8.41% in the same period last fiscal; exports as a share of the Gross Domestic Product was down to 19% from 20%; and fixed capital formation decreased from about 31% of the GDP to 29.8%, signalling a slowdown in the industry as well.
As for reasons for this poor showing, Bharatiya Janata Party chief Amit Shah cited “technical reasons” while India’s Chief Statistician TCA Anant blameddestocking by industries in anticipation of the Goods and Services Tax.
Scroll.in spoke to some economists to get a sense of what the government can do to address concerns about the economy and spur growth. Here’s what they suggested.
Spend more and forget about ratings
“The government needs to give economy an immediate boost and fiscal spending is the way to go about it without worrying too much about the consequences because economic growth is in doldrums,” said Ajit Ranade, chief economist at the Aditya Birla Group. Although the government has already spent much of its budgeted expenditure, he argued, it needs to spend more to spur investment and demand in the economy to push up the growth numbers.
“The argument against fiscal spending is that it will be inflationary, ratings downgrade will happen, interest rates will go up, or debts could become unsustainable,” Ranade said, “but right now, the situation is very dire.”
“We need to do whatever it takes, at least in the short term,” he added. “We also need a weaker rupee; it [strong rupee] is hurting both the exports and the business. Imports are surging and they are eating into the domestic market share. We don’t need ratings, we need growth right now. Ratings are meaningless if you are not growing.”
Cut interest rates, provide financing and stable business environment
Radhika Pandey, a consultant for the National Institute of Public Finance and Policy, said the key reason behind the slowdown is weak private investment. So, a steep rate cut in the benchmark lending rates is required to allow for monetary policy expansion. In simpler terms, the Reserve Bank needs to cut interest rates for banks, thereby making borrowing cheaper for the industry and spurring investment.
“High real interest rates do not augur well for private investments,” Pandey said. “Given the limited transmission of monetary policy there needs to be a steep cut to have a bearing on private investments.”
The government should also enable non-banking sources of funding for businesses. One of these is offshore rupee denominated borrowing, whereby a firm can borrow money from international markets in the Indian currency, thereby lowering the risk of currency volatility.
Pandey also argued for more certainty in the business environment and said businesses can do without shocks like demonetisation. “After demonetisation shock, there is an environment of uncertainty in the economy,” she said. “This inhibits announcement of new projects by the private sector. There should be an environment of certainty that no such disruptive moves would rock the economy in the near term.”
Acknowledge the slowdown and spend on rural areas
“The economy is in collapse mode and the government needs to come out publicly and accept it first before trying to fix it,” said Himanshu, associate professor of economics, Jawaharlal Nehru University. “All major indicators point to a slowdown not seen in recent months, so there is something very structural about this and it can’t be solved immediately.”
Himanshu said the government needs to spend more on rural areas. Why? Increasing rural people’s incomes can drive up the consumption demand, which in turn will boost the industry. “The best thing will be to spend more money on areas where the demand has slumped to create more demand,” he said. “That would be in rural areas, construction sector and the unorganised sector.”
He said the government has enough money for this kind of spending. All it requires is political will. “The government should not worry too much about fiscal space, they can definitely manage the fiscal space and spend more,” he said. “Right now, one shouldn’t be worrying about fiscal situation when the economy is getting into a mess. Anything that creates more income in the rural areas can help India’s growth story. It’s not a rocket science.”
Economy can’t be fixed overnight, so don’t do shock therapy
Sunil Kumar Sinha, principal economist at the ratings agency India Ratings, warned that neither the private sector nor the government can quickly drive up economic growth in the short term. So, the government would do well to see through its reforms agenda without getting distracted by calls from people worried about the state of the economy.
“One needs to have patience to see to it that this process doesn’t get derailed, and more and more bad assets are resolved through reforms like the new bankruptcy law,” he said, adding that the government must adhere to its commitment to limit fiscal deficit to 3.2% of the GDP.
“The fiscal space is simply not available,” Sinha said. “Also, monetary space to really stimulate the economy is also very limited given that the RBI has reduced rates by 200 basis points since January 2015. I don’t see how we can make a difference in the short term to accelerate the growth. On the contrary, they need not be too perturbed by the low rate of growth and keep taking steps to make economy more resilient and avoid steps like demonetisation. We are realising that without demonetisation, the growth situation would have been much better.”
Don’t chase ratings
Soumya Kanti Ghosh, chief economic advisor to the State Bank of India, said India needs to stop chasing the “mirage of a ratings upgrade” and focus on spending more.
“We certainly believe that we are in a slowdown mode since Q2FY17 and any slowdown that has been prolonged till Q1FY18 is technically not short-term in nature or even transient,” Ghosh wrote in a note published on September 19. The government should continuously spend more without worrying much about fiscal deficit, he added, but it should keep its net borrowings in check. The note suggests that borrowing more through short-term instruments by the government along with a “concomitant decline in long term borrowings”.
“Honestly, let’s not chase the rating upgrade mirage,” the note concludes. “Remember India has had a solitary net rating upgrade in the last 25 years! Amusing, isn’t it?”