Download COPY FOR `COMMENTARAO` IN “THE Telegraph” of

COPY FOR ‘COMMENTARAO’ IN “THE Telegraph” of
October 7 2002
Threats and Opportunities in managing the Economy.
By S L Rao
The ‘Economist’ in a special issue titled “Doldrums-The world
economy and how to rescue it” argues that the world economy
might be entering a period of volatility in the business cycle,
following “the bursting of the biggest bubble in American
history”. It predicts that “ the unwinding of America’s
economic and financial imbalances has barely begun”, that the
“downturn is not yet over” and we must expect “a protracted
period of slow growth-perhaps even a further slump in
output”. It says that policies for taming business cycles by
governments have moved from Keynesian demand
management policies to stabilize economies in the 1950’s and
1960’s, to an admission in the 1970’s that governments were
powerless to manage stagflation except to restrain inflation,
and in recent years to the belief that recessions were a thing of
the past. The growing globalization could result in bigger
worldwide booms and busts.
The CSO has announced that between March and June 2002,
the economy grew by 6% against 3.5 last year and 5.4 in 200001. This “turnaround” as some call it, is said to have been in all
sectors, with manufacturing showing a growth of 3.8% (2.7%
last year), agriculture 4.4% (1.1%), mining 5.3% (minus
0.3%0, construction 6.3% (minus 0.2%). In the past, only the
service sector showed large growth. The trade and central
fiscal deficits are reported to as have declined. CSO’s past
annual national income estimates have seen dramatic changes,
mostly down wards, between the “quick” estimates and the
“final” estimates. We must be more skeptical of an estimate
that relates not even to a full year, but only one quarter. Also,
last year’s first quarter was poor and so this year’s first
quarter, even with modest improvement shows a high
comparative percentage growth. There are adverse factors still
to factor in. This year’s drought over most of the country is
already said to have reduced the kharif crop by 15%. The
continuing rise in domestic prices of petroleum, oil and
lubricants, will affect consumer spending on other items. The
rise in international prices of oil and gas will increase the trade
deficit. Prospects of war in Iraq and the possible stoppage of
the present flow of Iraqi oil will further raise prices and hurt
our balance of trade and consumer expenditures. The present
decline in trade deficit perhaps is indicative of poor non-oil
imports and some buoyancy in exports of I.T. related products
and services, as American companies flock to India in their
drive to cut costs. The pressures on government expenditures
and on its compulsions to borrow more are immense. The
bailout of UTI, IFCI and IDBI, drought relief to states, rising
defence and national security expenditures, the securitization
of the oil pool deficit and consequent increase in government
debt, are some of them. The decline in interest rates has had
little impact on industrial recovery but will reduce interest
costs on government borrowings. It will make more
borrowings possible without raising the deficit by much.
Government borrowings in India are mainly domestic, not
foreign. Hence they do not make the economy so vulnerable, as
South East Asia for example, or Latin America, to fluctuations
in overseas sentiment about the country’s economy. Our
export dependence is lower and a world recession will not hurt
us so badly. And inflation is at record low levels, not so much
because of government action as because of the relatively low
economic growth, led by low consumption and investment
expenditures.
The capital markets are in poor state. Savings are not growing
as in past years. Capital formation both in the private and
public sectors is poor. Foreign investment does not seem to be
adding new capacities, only buying up existing ones. The poor
regulatory record of SEBI over the market operators in the
past, and by the RBI over NBFC’s, cooperative banks and even
scheduled banks, has led to a scare among investors. Lenders
are also nervous of risk taking because of the rising levels of
their non-performing assets and have huge liquidity.
There is no sign that governments are soon going to improve
the financial viability of companies and departmental
enterprises run by them. Electricity is a prime reason for state
deficits and there is no political consensus on making it viable.
The BJP in Andhra or Karnataka opposes the policy of its own
government at the Centre about raising tariffs. Water is
another major drain on state revenues with poor metering,
billing, collection and very low tariffs. Irrigation does not even
pay for its operations and maintenance expenditures. Most
state transport undertakings run at a loss and there is no sign
of their being privatized, though governments are unable to
improve them. Railways have had such a poor investment and
maintenance record that safety and up gradation have been
sacrificed. The consumer and industry have certainly not
benefited from government ownership and control and suffer
poor availability and quality of all government managed
services. Is it any wonder that Indian industrialists are seeking
investment opportunities overseas?
India has had static if not declining share of manufacturing in
GDP, unlike China, where it is higher and rising. We need to
build a manufacturing base for a variety of products. Instead,
we have services contributing half the GDP, for long showing
the fastest growth. The structure of the economy is lopsided for
a country at our stage of development and poverty. And the
very low levels of inflation signal a decline in demand, not
stability.
The significant fall in interest rates in the last few years will
probably lead to greater savings and lower consumption. With
household savings the largest part of gross savings and
substantially probably by people saving for their old age, they
will now need to save more to safeguard themselves. But high
liquidity in the banking system might keep purchases of
durable products buoyant. Manufacturer margins will be
eroded.
What should governments be doing in this situation? They
must prevent deflation. This may require higher government
spending and debt. The boom in construction and hence of
related industries, is due primarily to the public roads
programme and cheaper housing loans. But government must
strengthen its institutional framework to ensure that public
money is spent efficiently, with least leakage. Revenues must be
raised by higher user charges and disinvestments. The rupee
must be encouraged to decline in relation to other currencies,
which will also be declining. This is not the time to even
consider capital account convertibility. Indeed, the RBI needs
to keep an even closer watch on outflows of funds, not relax it.
Public investment must rise in high multiplier projects like
construction-roads, irrigation, etc. The infrastructure must
improve. An Oil Regulator must keep close watch on domestic
oil and gas prices. Other independent regulators must have
greater responsibility and powers. Instead of spluttering, the
disinvestments engine should now be racing. Fiscal measures to
stimulate demand might be in order and must be pursued.
Does this mean that we sacrifice the mantra of macroeconomic
stability of the 1990’s? Despite the mantra having been
followed only spasmodically by governments after 1995, the
answer is no. But it is time to take a short respite, and
meanwhile tighten the supervisory mechanisms. It is good that
we are not much attached as yet to the world economy. We can
blame our own inefficiencies for most of our problems, not the
weaknesses in the rest of the world. (1245)