Restoring High Growth

Page 1 of 2

Publication: The Economic Times Delhi; Date:2012 Jan 09; Section:Editorial; Page
Number 14

Guest Column

Restoring High Growth

AJAY CHHIBBER

India faces a Trifecta: slowdown in GDP growth, high inflation and a

weakening rupee. Some of this can be attributed to external factors such as
the financial crisis in the western world. China and Brazil are also slowing
down. But in the Indian context, we must also look at domestic factors as
the main reason for the macroeconomic problems. Global risk aversion and
outflow of funds from emerging markets is affecting countries with weaker
fundamentals. As a result, net inflows in India have declined to $0.6 billion
during April-October 2011-12 from $27.5 billion in the corresponding period
in 2010-11. There can be no doubt that slower growth, high inflation and a
weakening rupee are signs of weak fundamentals. They are inter-related and
require a coherent and coordinated policy response. The RBI alone cannot be
blamed or solve these problems.
The weakening rupee comes as no surprise. If Indias inflation is higher than
world inflation for a persistent period of time as has been the case since
2008 at some point, the rupee must fall to maintain the real exchange
rate. The rupee can remain strong only if India continues to attract net
foreign inflows in sufficient quantity. If India did not hold large reserves, the
panic on the rupee would be even greater. If India had backup
arrangements with other central banks say, by joining the east Asia
reserve pool or by having arrangements with major central banks it could
hold fewer reserves. But that is for the future.
The main reason for the lack of confidence is the economic slowdown and
the lack of political cohesion to continue with badly-needed reforms to revive
it. The recent controversy over foreign direct investment in retail was a clear
signal that political deadlock will not allow reforms to go through. With key
reforms in insurance and land acquisition held up in Parliament, the GST
stuck in the states and no prospects of any labour reform, it is hard to see
how to revive growth prospects. A weakened rupee encourages exports and
discourages imports and may be the best hope for some revival, but with
balance sheets of major corporates affected by a weaker rupee, the ensuing
exchange rate uncertainty will hurt investment.
With a weaker rupee, the fight against inflation becomes more difficult. The
passthrough effects of fuel prices and other commodity prices will be felt
either on more inflation or a larger fiscal deficit. Inflation was a problem
even before the weakening rupee; in fact, the latter is a result of
persistently high inflation and not its cause. A key factor behind inflation is
that India has run a very large fiscal deficit and a very loose monetary policy
for a long time as part of a stimulus package following the 2008 global
financial crisis. This helped prop up growth artificially at over 8% between
2009 and 2011 but led to inflation as supply bottlenecks meant demand
outstripped supply. Subsequently, when the RBI started to reverse its stance
and apply the brakes through higher interest rates, the economy started to
slow down. The policy uncertainty has also slowed down investment despite
considerable liquidity in the market. With rising subsidy payments and a
growing wage bill, a greater share of government expenditure now goes to
increasing demand, helping fuel inflation. Mismanagement of the PDS is also

http://epaper.timesofindia.com/APD26302/PrintArt.asp?SkinFolder=ETD&artType=Article

1/11/2012

Restoring High Growth

Page 2 of 2

a contributor to food inflation with a large share of Indias foodgrain reserves

destroyed by poor storage and transport bottlenecks. We need a shift to
much smarter food reserve management through a better combination of
physical storage, advanced purchase agreements in futures markets globally
and intelligent use of private stock holding. The new law for FDI in retail
would also help in reducing middlemen and handling losses and margins.
How does India get back to growth and low inflation that we saw in the
golden period 2002-07? Simply stabilising the economy by cutting
expenditure and raising taxes will not solve the problem although it may
avert a crisis. It will take India back to an era of lower growth. The solution
has to be a new round of reforms that will restore confidence in the Indian
economy and a fiscal compact to bring the deficit down in the next three
years through expenditure restructuring and tax reform. The reforms needed
are obvious land acquisition, labour laws, GST, FDI in retail, to name a
few, and combined with measures to further reduce red tape, and financial
access to SMEs. With these we can be back again on the top table of growth.
Indias top leadership knows the answers, now the issue is how to resolve
the gridlock in legislating change. If not, people will say India flirted briefly
with rapid growth but sank back to the Hindu growth rate.
(The author is assistant
secretary general at the UN
and regional director for Asia and the Pacific at UNDP)

India needs fiscal stability, but that will only avert an outright crisis
To resume fast growth, India needs another round of economic reforms
The challenge is to find the political will to do what leaders know has to be done

http://epaper.timesofindia.com/APD26302/PrintArt.asp?SkinFolder=ETD&artType=Article

1/11/2012