A macro perspective

Macroeconomic stability with low inflation has been achieved with policy perseverance. Throwing the gains away would not be judicious

Indians now compare their living standards, not with their fathers’ and grandfathers’, but with those of countries to the east, particularly China.  From 1979, China, under Deng Xiaoping, stole the march over India. Between 1980 and 2013, it grew at an average annual rate of 9.9 per cent relative to India’s 6.2 per cent (Figure 1). With the magic of compounding, in US dollar terms, the Chinese economy, only 1.6 times India’s in 1980, became 5.2 times by 2013.
 
There were encouraging signs of India starting to catch up with China from 2014. In growth, among G-20, India improved its ranking from third in 2013 to second, next to China in 2014, and surpassed it in 2015 and 2016 to be the fastest growing economy. In every quarter between April 2015 and March 2016, India grew faster than China (Figure 2).
 
In this context, the recent signs of a slowdown, with growth declining from 7.9 per cent in 2015-16 to 6.6 per cent in 2016-17, are disturbing. So is the relegation of India in terms of growth in the five quarters ending June 2017 to the second position in four, and fourth position in one. Growth has decelerated in four of these five quarters. The slowdown started well before demonetisation on November 8, 2016, and cannot be all because of it. So, why is growth decelerating?
 
Investment demand is the culprit.  Between 2011-12 and 2016-17, as a proportion of gross domestic product (GDP), while private final consumption expenditure went up from 56.2 per cent to 58.8 per cent, gross fixed capital formation declined from 42 per cent to 38.4 per cent.
 
Low investment looks a bit incongruous with the high Indian stock market valuation. The trailing 12-month price-earnings (PE) ratio at a record high of 23 may reflect two encouraging signs rather than just irrational exuberance.  First, Indian companies have become lean and mean or, in other words, efficient producers with better capacity utilisation. Second, investors are betting on earnings, the PE denominator, to grow.
 

Five policy issues appear important in reviving growth to eight-nine per cent or more, an imperative to rapidly create jobs, wipe out poverty and improve the well-being of the people.
 

First, a more expansionist fiscal and monetary policy could indeed produce a temporary blip in growth, but would be counterproductive in the medium run. For example, much of today’s large non-performing assets (NPA) through the over-leveraging problem are inevitable after-effects of the steroid of such policies following the global financial crisis. Macroeconomic stability with low inflation has been achieved with a lot of policy perseverance. Throwing all the gains away now would not be judicious.
 
Second, India continues to need boosts to its infrastructure. Progress on the Delhi-Mumbai Industrial Corridor needs to be expedited. In this context, the Ahmedabad-Mumbai bullet train, for which the foundation stone was laid during the Japanese Prime Minister’s recent visit, is welcome. It will cost Rs 1.1 lakh crore, a lot of money, but Japan will fund 81 per cent of the cost over 50 years at 0.1 per cent interest. Objections to the bullet train are similar to those in the past against multi-lane highways.  The midnight’s children grew up to see the first highway either in a foreign country or only in their late 40s. Highways transformed mindsets, and along with highways, India built rural roads as well. India should be able to improve her existing railway network while having a bullet train as well. A few showcase projects are important to open the mental horizons of the young, the builders of the India of tomorrow.
 
Third, credit growth to infrastructure remained negative between April 2016 and June 2017. But, just throwing money at infrastructure is not going to suffice. Projects are stalled not only because of shortage of funds, but also because of structural reasons such as design flaws, inefficient implementation and problems such as land acquisition, regulatory inadequacies and difficulties in enforcing contracts. The power sector, whose debt was restructured twice before in 2001 and 2012 through state government-backed bonds, provides a good example. The pre-conditions attached were not met or did not produce the desired results.  With distribution companies threatening to pack up with unsustainable debts again, another debt restructuring plan, UDAY, was launched in November 2015. Hope UDAY meets with better success. 
 
Fourth, the twin balance sheet problem, with banks, particularly the public sector ones, saddled with NPAs, and debtor firms under heavy debt, requires a careful, graduated response. Gross NPA as a proportion of gross advances of banks has almost quadrupled from 2.5 per cent in March 2011 to 9.6 per cent in March 2017. While a matter of great concern, this is not the first NPA problem post-Independence. The gross NPA ratio had reached 15.7 per cent in 1996-97 and remained above 10 per cent until 2001-02. Growth forgives a lot of sins and annual average growth of 6.5 per cent between 1996-97 and 2008-09 helped.  The Reserve Bank of India and the government adroitly managed to soft-land the banking system through a combination of recapitalisation of public sector banks and regulatory forbearance. The NPA ratio came down gradually to 2.3 per cent in 2008-09. Two issues that require careful attention in the recent context are how to restructure public sector banks and how to reduce moral hazard in the financial sector through the new insolvency and bankruptcy institutional architecture.
 
Finally, stopping and even reversing the appreciation of the rupee in real terms may help exports. In recent times, China appears to be using up a part of its enormous international reserves for macroeconomic stability. But, for India, it may be useful to consider the scope for more aggressive intervention in the foreign exchange market not only to shore up reserves but also to stop the premature real appreciation of the rupee and boost exports.
 
This is an abridged version of a speech delivered at the CII Banking Colloquium in Kolkata on September 16, 2017 The writer is an economist