Savings to labour reforms: What India can do to become $5-trillion economy

Chief Economic Advisor Krishnamurthy Subramanian’s first Economic Survey has been guided by Blue Sky Thinking and aims to adopt the appropriate economic model for India. The underlying theme of the survey is shifting gears to catapult India to a $5-trillion economy by 2024-25. In 2018-19, the size of the economy is estimated at $2.7 trillion. For achieving the ambitious target, 8 per cent growth needs to be sustained compared with 7.5 per cent growth seen over the past five years.

So how does India shift gears? The Economic Survey points out examples of East Asian economies, which witnessed a virtuous cycle of increase in savings, investments and exports. With increase in savings and investment rate, the growth rates of East Asian economies improved. A corresponding increase was also seen in exports.

In India’s case, a favourable demographic phase should support growth. Lower real interest rates can increase the savings rate. These savings can be harnessed into investments thus kick-starting the virtuous cycle. However, as the savings rate goes up, the consumption rate has to naturally fall. Thus exports form an important element of this strategy. Investments will foster job creation and thus, imply more taxes for the government to spend on infrastructure.

The investment cycle can be kick-started by public spending, which can crowd-in private spending. The government is already doing this, as seen in investments in roads, affordable housing and railways. For private sector capex to improve, the Economic Survey shows the way forward. It talks about the following reforms: a) strengthening legal systems by reducing backlog and improving contract enforcement. India ranks 163 in contract enforcement in World Bank’s Ease of Doing Business, 2) labour reforms such as seen in Rajasthan can increase investments, 3) reducing the real rate of interest to make Indian firms competitive, and 4) encouraging micro, small and medium enterprises (MSMEs) to invest more and gain from economies of scale.

On the fiscal front, the Economic Survey reiterates that the government should continue on the path of fiscal consolidation and maintain the trajectory of the revised fiscal glide path. This will reinforce lower inflation and thus give room to the Reserve Bank of India to reduce real interest rates. This, in-turn, will spur savings. The current global backdrop of lower interest rates should favour India.

Thus, the Economic Survey sets the economic and reform agenda of the government for the next five years. In many ways the reforms undertaken by the government have laid the framework for the next phase of growth. The Insolvency and Bankruptcy Code (IBC) allows for a smooth and timely bankruptcy process. The goods and services tax sets the framework for data-driven lending and better tax compliance.

The Blue Sky approach is ambitious, but doable. It is also in contrast with the current trend where savings, investment and export rates have been falling. The decline in investments has gone hand-in-hand with rising non-performing loans in the banking system. However, with a massive recapitalisation program and implementation of the IBC, non-performing loans are now declining. Thus, the ground-work for a sustained growth path has been laid out. Much needed reforms in labour and legal systems will push growth higher.

Author is chief economist at Bank of Baroda