Slowdown year

Global and domestic factors will affect output

The year 2022 marked the end of easy money, at least for now. The coming year, consequently, will witness higher interest rates and a slowing global growth. This would affect economic outcomes in India through various channels. After a fair bit of reluctance, large central banks finally got their act together to fight inflation as it became clear that it was not transitory. Double-digit or near double-digit inflation rates in advanced economies raised the risk of de-anchoring inflation expectations, which could have significantly increased the cost of regaining price stability. Higher inflation in advanced economies is partly being driven by excessive monetary and fiscal stimulus during the pandemic. Disruptions caused by the Russia-Ukraine war also increased price pressures. Rising Covid-19 infections in China may not allow supply chains to normalise in the near term. A sharp slowdown in China, which has been a major driver of global growth in recent decades, would itself significantly affect overall global growth.

The International Monetary Fund (IMF) in its October edition of the World Economic Outlook projected global growth to slow down to 2.7 per cent in 2023, compared to 6 per cent in 2021. A large part of the developed world is expected to slip into a recession in 2023. A lot will depend on how quickly inflation is contained with durable signs of easing. Slowing global growth, along with higher interest rates in advanced economies, is affecting a large number of developing countries. The IMF’s lending to troubled countries is reported to have hit a record high in 2022. Since the situation is unlikely to improve in the near term, more countries may need help.
 

While India’s position in this context is strong, challenges from the external sector are likely to continue in 2023. According to professional forecasters’ projection for the Reserve Bank of India (RBI), the current account deficit in the ongoing fiscal year is expected to hit 3.4 per cent of gross domestic product (GDP). Although it is expected to ease to 2.7 per cent in 2023-24, the situation could change, given the global uncertainty. Both exports and capital flows could be affected because of weak global demand and higher interest rates in advanced economies, particularly the US. In the given circumstances, pushing growth will be a challenge for Indian policymakers. While the RBI has raised the policy rate by 225 basis points in the current cycle, more hikes are expected. Since it missed the inflation target, higher rates will have to be maintained till inflation comes close to the target of 4 per cent on a durable basis.

Comparatively high interest rates would restrain economic activity. Although the IMF expects growth to slow down to 6.1 per cent in 2023-24, compared to 6.8 per cent in the current year, the actual outcome could be lower. On the fiscal front, while the government is confident of attaining the deficit target in the ongoing year, it remains to be seen how it approaches the consolidation path next year. Its decision last week to make the food grain provided under the National Food Security Act free has dented confidence. Given that nine state Assembly elections will be due in 2023 before the 2024 Lok Sabha elections, there is a risk of fiscal responsibility taking a back seat. Given the public debt and Budget deficit levels, this could create longer-term growth and macro-stability risks.