Indian economy expected to follow its natural course of modest growth

With the Indian economy and markets, if you are too pessimistic, you will miss an opportunity; we saw this starting from the middle of 2022 until now, when growth has been strong across the board and stocks have shot up in unison. However, once the cycle has turned, if you start to extrapolate, believing in new policies, ministerial claims, and selective positive anecdotes, all amplified by social media, you will be frustrated. In the absence of structural changes, the pendulum of growth starts to swing back to normal and over to the other side. This is perhaps what is happening now, which frustrates die-hard optimists. We saw a glimpse of this in Washington last month when Union Finance Minister Nirmala Sitharaman railed: “Where economic activities are good and robust and dynamic, money flows. That is the normal textbook assumption. I want to ask, where are the investable funds? Where are the investors? What are they looking at? What’s holding them back?” The plain answer is it is the same factors that held them back 10 or 15 years ago. The only exception was the undesirable infrastructure and real estate boom between 2006 and 2012, which was ridden with corruption and crony capitalism.

 

India’s economy has long been characterised by modest growth cycles, rarely experiencing recession, but also failing to achieve sustainable acceleration. The cycles are driven by clearly identifiable macroeconomic factors like domestic inflation, interest rates, poor growth in manufacturing, and agriculture and the health of the United States and European economies (which influences exports). Most importantly, irrespective of household incomes or corporate earnings, growth in government revenue is always in double digits. Such high extraction is needed to pay the salaries of government employees, for national security, and to pay interest on government debt. Very little is left for investment in education, health care, and urban transportation for the underprivileged. Worse, a lot of what is spent is often wasteful due to high corruption at state and local levels.

 

This overarching macroeconomic picture could not have supported even modest gross domestic product (GDP) growth, forget about the current 6-7 per cent, but for two bright spots. One, net services exports of $161 billion last year and, two, the deluge of foreign remittances from non-resident Indians (NRIs) — about $125 billion last year. Without these two contributions, the rupee would have been much weaker and inflation and interest rates higher, leading to very poor growth rates. Collectively, these macro factors create the big picture that has remained largely unchanged over decades, yielding both positive and negative outcomes.

 

On the positive side, if these factors remain stable, steady growth that is far higher than that of many major economies can be assumed, guaranteeing higher prosperity for the upper middle class and the rich, who corner the bulk of the benefits of such growth. Another positive is that the private sector is at the vanguard of this growth. Regardless of which political party is in power, there has been no foolhardy expansion of the public sector. The impression that only two or three large business houses are cornering all business opportunities is not entirely correct. The big story of India’s economy over the past three decades is the extraordinary flowering of entrepreneurship across consumer technology, engineering, pharmaceuticals, energy, and even finance; this is partly due to minimal new interference by the state. Imagine what more could have been achieved, with improved agricultural productivity and reduced manufacturing, logistics and power costs, and upgraded labour skills, especially in backward areas.

 

The downside to the moderate growth story is that it will not lead to a radical transformation, only incremental growth. Don’t expect a deluge of foreign direct investment or a surge in domestic capital expenditure. Growth would trickle down, keeping the teeming masses hopeful of a better future, but will not be adequate to improve their savings or consumption. It is worth noting that huge stress has built up in unsecured lending, including microfinance, despite the much-vaunted 7 per cent GDP growth. Income levels of the majority have not increased commensurately and so consumption is being funded by debt. Clearly, there is a disparity between headline growth figures, which delude us, and the quality of that growth.

 

When the economy was in serious trouble due to the double blow of demonetisation and goods and services tax, the government’s knee-jerk response was a drastic rate cut in corporate tax from 30 per cent to 22 per cent in October 2019. The rate was set even lower, at 15 per cent, for new businesses. But private capital investment still remained weak. Three years later, in the post-Covid period, the government announced a stunning capital expenditure (capex) of Rs 10 trillion in the Budget of 2023-24, upping it to Rs 11 trillion this year. The central government’s capex as a percentage of expenditure hit an extraordinary 28 per cent in FY24 from just 14 per cent in FY14. And yet, this failed to incentivise the private sector to ramp up investment significantly. Right now, both private consumption and capex are weak and declining, despite strong balance sheets. If the government wants to know why this is so, it will have to get industry to talk frankly and implement many radical steps. This hardly seems probable. More likely, the economy would continue on its natural course of modest growth, as it is supposed to. 

 

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  The writer is editor of www.moneylife.in and a  trustee of the Moneylife Foundation; @Moneylifers