CHAKRAVIEW - Apocalypse now?

Tags: Economy

Economic Survey lowers growth ambition, blames external forces, seeks exit option, prays for rain

<font color=red>CHAKRAVIEW</font> - Apocalypse now?
The Economic Survey 2015-16 presented in parliament on Friday virtually absolves the Union government, especially the finance ministry, of any responsibility for the haunting economic prospects staring the nation in the face in the year ahead. The survey squarely blames the uncertain global economic climate for any unforeseen calamity that might visit India, while insisting that the survey is not an “advance apology”.

What’s more, for the first time in known memory, the survey has craftily shifted the onus of the development funding to the resources-starved state governments, stating that the Centre’s job must necessarily be to set the policy agenda, while its successful implementation must be the headache of the states. To coax the states to get moving and foot the development bill, especially for health and education, the survey seeks to unleash what it terms “competitive federalism” among the state governments. In doing so, it carefully replaces the term “cooperative federalism” among states that it had so eagerly championed in the Economic Survey presented a year ago.

By way of what “competitive federalism” should really mean, the survey obliquely showcases the Gujarat model under three consecutive terms of Narendra Modi’s chief ministership from 2001 to 2014, before he ascended the prime minister’s high office in New Delhi. However, it does not name either Modi or Gujarat in person.

For the debt-laden and severely malnourished corporate sector starved of bank finance, the survey makes a strong pitch for euthanasia or exit policy, sugar-coating its prescription with an epic nomenclature of “the Chakravyuha challenge”.

“This year’s Economic Survey comes against the background of an unusually volatile external environment with significant risks of weaker global activity and non-trivial risks of extreme events,” the survey states in its opening comments, before cautioning that “if the world economy lurches into crisis or slides into further weakness, India’s growth will be seriously affected, for the correlation between global and Indian growth has been growing dramatically.”

It says assessment of India’s performance over the coming year would, therefore, need to be conditional. Chief economic adviser Arvind Subramanian later told reporters, “The world economy is becoming increasingly grim. That means you have to recalibrate expectations on the performance of the Indian economy.”

Amidst this sense of gloom and doom, the survey desperately pins hope on normal monsoon to achieve 7.0-7.75 per cent GDP growth next financial year. This is way lower than 8.5 per cent projected in last year’s survey and expected actual realisation of 7.6 per cent this fiscal year. It says that in the medium term, there is scope for India to actualise its potential, while India’s long-term growth potential is still around 8-10 per cent. “Fall in exports and drought led to growth targets being missed this year,” Subramanian said.

Whatever jump in growth that was witnessed in 2015-16 was largely due to massive dose of public spending and higher consumer spending as interest rates came down slightly.

The CEA said that extra spending by both central and state governments this financial year has been close to 0.5 per cent of gross domestic product. This investment was made possible by windfall from falling crude prices that enabled the government to raise taxes on auto fuels keeping retail prices constant.

The survey, nevertheless, pats the government for its commitment to fiscal consolidation and low inflation that make India stand out “as a haven of stability and an outpost of opportunity.”

“Our slowdown should not be blamed on what the government or the country did or did not do,” Subramanian said, adding, “We have given a wide range. Rebound in agriculture will take growth to the upper end of the range and an international crisis could take us even below the lower end of the forecast.”

He warned that the slowdown being experienced by various countries could lead to aggressive currency devaluations and spark a race that could lead to an extreme event in global economy, though, for now, “it does not look like a high probability event.”

The survey makes seeks some backing from the Reserve Bank of India, while making a case for lower interest rates, provided good monsoon boosts rural incomes and consumption demand. “The narrative of growth being powered by just domestic factors also seems to have changed with a lot of emphasis being given to the growth across the globe. Indian companies have also suffered with declining global demand levels and decrease in exports has taken away a sizable chunk of growth,” lead economist at Deloitte India Anis Chakravarty said.

To support growth next year, the survey again goes back to the debate on whether to relax fiscal deficit targets next year so that more resources are available for boosting growth through public spending or not waver an inch and maintain macroeconomic stability in the face of global economic turmoil.

While leaving the outcome of the debate for the budget to decide, it listed arguments in favour of sticking to targets that were more forceful and better argued.

It said by sticking to the deficit figures of 3.5 per cent of GDP for next financial year, as announced in the last year’s budget, the government would be delivering on a commitment and reinforcing its credibility. It would also aid macroeconomic stability and provide a cushion in an unstable global economy.

For this year, the survey says that fiscal deficit target of 3.9 per cent will be met despite higher spending because tax collections have been robust. The survey also points to the fact that Rs 1 lakh crore worth of subsidies go to the well-off and the rich and must be dealt with. Any move that the government would make to deal with the issue will free up resources for investment.

It has also talked again for bringing agriculture income under the tax net and even reduction of number of subsidised cooking gas cylinders each family gets to 10 from 12. Another area that the survey points to is fertiliser subsidies and their leakages. It suggests overhaul of the system for their better targeting and liberalising urea imports.

The government also lists out its achievement on savings on subsidies through better targeting and direct transfers. While keeping the debate open on fiscal deficit targets for next financial year, the survey does talk of revisiting the medium-term monetary policy framework.

“We did not say review fiscal responsibility and budget management targets. We need to revisit the monetary policy framework, as other countries in the world have done. Expenditure planning should be embedded in it,” Subramanian said.

The mid-year review of the economy that was released in December ignited the debate on fiscal deficit targets. It had argued that as room for higher tax revenues had been exhausted because oil prices were not expected to fall dramatically from current levels and higher wages that government would have to shell out for its employees, the relaxation in deficit targets was needed.

The strictest warning against it came from RBI governor Raghuram Rajan. He cited the example of Brazil that is now facing a crisis because in the years of bounty it had decided to rapidly increase government spending. Rajan had also demolished the argument of those advocating higher deficit for getting growth, saying that the push would not be enough to increase taxes to such an extent that they pay for the extra borrowings that were incurred at present.

The survey suggests that the prospects to pump up consumer demand next year are slim though there is a pocket of hope in the form of government employees who are in for a salary increase in 2016-17. This year, private consumption expenditure went up as low inflation brought down interest rates and left some surplus with the people.

“Current prospects suggest that oil prices might average $35 a barrel next financial year compared with $45 a barrel in 2015-16. The resulting income gain would amount roughly equivalent to 1 percentage point of GDP. But this would be half the size of last year’s gain, so consumption growth would be slow on this account next year,” the survey said.

One area of growth in consumption is the implementation of recommendations of pay commission that would increase salaries of government employees. Another factor that could help growth is return of demand from rural areas as monsoon is expected to be normal.

While urban consumption returned last year, rural demand continued to languish as shown by data for growth in production of consumer non-durables production in the index of industrial production.

The survey, however, expects stimulus for the economy to come from the monetary side in the form of lower lending rates by banks as inflation is expected to be low.

It states that inflation would be 4.5-5.0 per cent next financial year, which is lower than the target set by Reserve Bank of India. Risks to this number would be from the downside due to slowdown in China and lower global oil and commodity prices, the survey said.

It said even the implementation of 7th pay commission recommendations would not be inflationary as has been shown by past experience. It would rather have a positive spin-off in terms of higher demand and still higher tax collections.

“The cuts in policy rates in October and later have not been transmitted probably because of tight liquidity in the system as is also shown by short-term interest rates. There is a scope for easing monetary policy both by easing liquidity and by lower policy rates as well,” Subramanian said.

While admitting that there would be little room to dramatically increase the money that the Centre can provide for investments due to higher expenditure commitments like pay commission award and no additional sources of revenue becoming visible on the horizon, the survey suggests dramatic steps to deal with the issues clogging private investments.

“On of the most critical short-term challenges confronting the Indian economy is the twin-balance sheet problem – the impaired financial position of the public sector banks and some large corporate houses,” the survey said.

“It is now clear that this problem is the major impediment to private investment, and thereby a full-fledged economic recovery,” it added.

As banks grapple with high bad loans they have reduced lending to conserve capital to meet the capital reserve requirements. A combination of bad loans and no growth in business has also dragged down the valuations of these banks thus impinging on the capacity to raise fresh capital on favourable terms.

The government has already announced that it would give Rs 70,000 crore capital to banks in the next four years, while they can raise the remaining Rs 1.1 lakh crore from the market. As their valuations remain low and continue to slide further while they go about cleaning up their balance sheet on RBI’s orders, the government would have to increase the capital it needs to provide to the banks.

Subramanian said this money could be found in public sector balance sheet, including that of RBI.

Apart from the government selling its stake in other state-run companies to finance banks, RBI can also look at deploying its excess capital for this purpose, the CEA said.

He said RBI’s capital base is higher than what other central banks around the world hold so the funds are available.

“The government should look at creative way of leveraging resources and redeploy its equity in regulatory institutions,” Subramanian said.

To deal with the issue of bad loans, the survey devotes an entire chapter on making exit of promoters from unsuccessful businesses easier.

“We have moved from socialism with limited entry to marketism without exit. The Insolvency and Bankruptcy Code bill when it is passed by the government will address the issue in a big way,” Subramanian said.

The survey said easier exit norms enable early rescue of non-performing assets of banks and get some value out of it before they become dead. Another challenge to growth enumerated by the economic survey is declining exports of goods and lowering of growth of services exports due to external factors.

“Realising India’s medium term growth potential of 8-10 per cent will require rapid growth of exports,” it said. The way out for India is to increase its competitiveness in services to such an extent that its share of global services trade goes up to 15 per cent from 3 per cent, at the present. But this, the survey said, was easier said than done.

The survey notes that industrial growth accelerated in 2015-16, as manufacturing sector looked up. The private corporate sector, with an around 69 per cent share of the manufacturing sector, is estimated to grow by 9.9 per cent at current prices in April-December 2015-16, it said.

The index of industrial production (IIP) showed that manufacturing production grew by 3.1 per cent during April-December 2015-16, vis-à-vis a growth of 1.8 per cent in the corresponding period of the previous year. The survey underlines that the growth in the services sector moderated slightly, but still remains robust. Being the main driver of the economy, the sector contributed about 69 per cent of the total growth during 2011-12 to 2015-16 and in the process expanding its share in the economy by 4 percentage points from 49 to 53 per cent.

“The external position appears robust. The current account deficit has declined and is at comfortable levels; foreign exchange reserves have risen to US$351.5 billion in early February 2016, and are well above standard norms for reserve adequacy; net FDI inflows have grown from $21.9 billion in April-December 2014-15 to $27.7 billion in the same period of 2015-16,” according to the survey.

The survey also examines the role of free trade agreements in boosting exports. A panel headed by Subramanian is already examining the issue in detail. The survey said that FTAs have led to increase in trade but rise in imports by India is higher than the increased exports it has managed. It said average effect of FTA is to increase overall trade by about 50% over roughly four years.

CEA said with mega trade agreements proliferating all across the world India cannot be a sitting on the sidelines.

“There will be costs if India sits out. Exporting to these regions will become difficult. On the other hand, by becoming part of such agreements India could be exposed to higher imports. So informed decision has to be made in how to deal with such agreements,” Subramanian, who is a trade economist by training, added.

Despite the dismal outlook on global dynamics and continued weakness anticipated for exports, the survey expects current account deficit in next financial to be in the range of 1.0 per cent to 1.5 per cent of GDP, as global commodity prices remain low.

Apart from monsoon, the survey again points to the importance of increasing productivity and getting more from the same level of inputs.

It also calls for bringing more land under assured irrigation, bringing affordable mechanisation to farm sector, efficient use of fertilisers, disbursal of subsidy through direct benefit transfer and use of Digital India initiatives to drive agriculture extension. These have been talked for long and would take even longer to implement.

So till such time external environment becomes favourable, pray to rain gods and lower oil prices to keep growth growing.


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