Indian Economic Woes: Clouds in Passing or Storm in Offing?

Business analysts and economic experts, who not so long ago convinced themselves and the rest of the world that India would soon be an economic superpower, are now busy overturning their hypothesis. The global chill that started with the hint by America’s Federal Reserve in May of this year that it would soon start reducing its vast purchases of treasury bonds (thus signaling the end of ultra-cheap money) has shaken up the Indian economy more than any other emerging market economy.  The responses of the Indian government to a speedily depreciating Rupee, be it curbs on consumption of gold or restrictions on overseas investments by Indians and Indian entities, have only led to concerns  about the fickleness of foreign investments and potential capital controls reminding one of the 1991 balance-of-payments crisis.  

There is no doubt that Indian economy and the Indian business are a victim of global economic travails marked by years of flat growth in the US and near-bankruptcies in certain European countries. However, Indian governance has also been a victim of its complacency that followed the confidence with which it handled the 2008 global meltdown, especially in terms of the robustness of the banking system. Lack of expansion in manufacturing output and increase in exports together with stalling of infrastructure projects on one hand and high inflation together with spiraling imports of gold and oil have resulted in a burgeoning current account deficit (CAD) that needs greater  (rather than lower foreign capital as now) flow of foreign capital. The Economist (August 24^th-30^th 2013) estimates that India needs to attract USD 250 billion of foreign investment next year to support management of CAD and debt servicing, more than any other vulnerable emerging economy.

External prescriptions

External experts attribute the current state in India to the slackened pace of reforms and the obstacles to growth such as power shortages and labor issues affecting industrial productivity, red tape and graft affecting governance, and bad debts and subsidies affecting capital efficiency.  The external prescription is on familiar lines; complete the full float of the Rupee even if it breaks the viability of a few firms and industries, remove all subsidies, fuel and food, even if it affects vulnerable sections of the society, remove sector caps on foreign direct investments even if it affects domestic competitiveness, and stress-test and recapitalize banks and financial institutions even if it means that some such institutions have to break up or such capital injection would widen the deficit.

External experts would also suggest breaking of public monopolies, in coal, power, metals and capital goods, for example and encourage private enterprise in all sectors of the economy including agriculture and retail, and aerospace and defense, for example.  They would also suggest sweeping tax reforms, including GST, to unify and simplify tax regime across the country. The other focus would be on easier exits, including liberalized labor laws. While some, if not all, of the external prescriptions do have economic logic, all of them may not be easily introduced or extended in India. Economic policy has to be not a mere global replica but more importantly a socially sensitive platform. Each country would need to evolve its own economic prescription that meets the country’s social needs.

Indian perspectives

Experts are prone to downplaying the continuing scourge of poverty in India, in the context of the islands of prosperity that are getting built up. They believe that it is not hunger that is the issue but it is nutrition that is the issue in India. They believe that rather than grains which provide calories, which according to them are available in villages, children need nutrients, including proteins, fibers and vitamins. Apparently, this is a misplaced perspective of economic journalism that traverses India in air-conditioned comfort. In reality, both hunger and nutrition continue to be the central issues in India. And the only way in which both the issues can be tackled is through inclusive growth that enables a minimum wage level that enables a reasonable quality of life supported by an accessible and affordable educational and healthcare infrastructure. Neither GM foods nor packaged foods, which would be an outcome of privatization and globalization of agriculture, would meet the superior delivery of inclusive employment.

The other critical issue for India relates to the millions of young people who will enter the employable age group over the next several issues. Apart from the fact that there must be millions of jobs that need to be generated through enhanced economic and industrial activity, there is also a responsibility on the educational institutions and young people for the job seekers to be truly employable. It is enigmatic that each year thousands of seats in various engineering colleges go unfilled even as Indian industry struggles to keep updating the skill levels of its young entrants. There are mismatches between economic needs and job creation, job requirements and skill availability, and skill requirements and educational opportunities. A holistic paradigm is required to expand and upgrade educational infrastructure while expanding and diversifying industrial infrastructure.

Inclusive growth

The incomes in rural areas are made in part by traditional agricultural activities and in part by incomes earned through work in industrial and urban areas. Potential farm workers are not getting displaced in the modern India by industries replacing agriculture but by the workers themselves going in search of more assured wages as migrant labor elsewhere. Clearly, this needs to be reversed by insulating agriculture from the vagaries of nature and uncertainties of earnings, and reestablishing its economic attractiveness. Each rural economy needs to be made self-sufficient by a three tier strategy. The first component must focus on modernizing agriculture through better harvest technologies and implements. The second component must focus on creating cooperatives that take agricultural produce to food processing sector and other consumption points, and eventually engage in value addition themselves, like Amul so successfully did. The third component must focus on developing the infrastructure of roads, electricity, water and sanitation and educational institutions in the rural areas.

An integrated rural development strategy will by itself reduce the pressures on urban settlements. That said, an integrated urban settlement strategy is also equally required. This would potentially require expansion of skills to cater to a wide range of industrial and economic activities. Factory production needs to be supplemented by several supportive activities such as logistics, distribution, sales, service, wholesaling, retailing, safety management, employee centricity and customer connectivity in the overall. Policies of industrial parks and SEZs are now independent of civic and connectivity development strategies. Making industrial and civil development interlinked and simultaneous is a much needed change that needs to be implemented. The loss of productivity that is experienced because of the lag in non-industrial development is enormous. The paradigm needs to be changed from focused industrialization to broader socio-economic development.    

Capital imports or product exports?

To a large extent in the urban inclusion strategy and to a smaller and important extent in the rural inclusion strategy require three inputs capital, technology and skills. If the points discussed above are taken note of the skills gaps would be addressed. That would leave capital and technology to be addressed. The external prescriptions, supported by a section of Indian policy makers and analysts, require that India should depend increasingly on overseas capital and technology. The policy preoccupation in the current situation seems to be on getting more foreign direct investments as a panacea. While foreign investments, especially in equity route, are welcome and would be effective to address external economic stability, the real impetus would arise from product push into the export space. What has been the export mantra of the 1970s and 1980s must be revived to lead a new export wave from out of India. That would ensure that the country is not disparately dependent on foreign investments which may come with their own conditions, and in layered preferences amongst various economies.

The need to focus on product exports is relevant because foreign investments would flow in only when products made out of India are quality-compliant and cost-competitive, and are produced in a safe and efficient manner. India has established a major industrial and retailing infrastructure and rather than re-discover the wheel, it would make eminent economic logic to build upon it to achieve higher levels of performance. It would be appropriate to import technologies and pay royalties rather than import capital, whether through equity or debt, and have long term service obligations. In other words, foreign capital must flow into India on its own merits of producing export-worthy products or to participate in a slice of the huge Indian market. Policies that enhance product competitiveness must be given priority over policies that are aimed at attracting foreign capital only by opening up of the caps of overseas investments in certain sectors. The former would automatically enable the latter, and would be quicker.

There are indeed clouds over the Indian economic landscape. Whether these are passing monsoon clouds or gathering storm clouds depends on our own policy prescriptions, and the level of customization to the Indian context.

Posted by Dr CB Rao on August 25, 2013