Of High Roads And Bylanes
Immediate and practical solutions to agrarian and employment crises are key to boosting India’s growth rate
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No doubt, the Indian economy is going through a churn. Job creation, GST and demonetisation hiccups and ease of doing business are seen as top obstacles to low growth numbers. While some talk about the bad timing of demonetisation and the GST, a few others point out that the positive outcome of these two decisions will only be seen in a few years from now. So, is it really worth going through short-term pains for long-term gains? Experts, economists and thinkers decipher the current crisis. Edited excerpts:
Q1. GDP growth rates have been falling for the last five quarters. Are demonetisation and faulty GST implementation alone to blame for the lowest GDP growth rate of 5.7 per cent, in the last three years?
GURCHARAN DAS: The slowdown had begun several quarters before demonetisation. Demonetisation exacerbated it and made it worse. Then, of course, the timing of the GST. GST is a great idea but the way it is executed is too complex and painful. There are a lot of things this government did right. But, there are also some mistakes that are amendable. One of our biggest failures is exports. The consumer demand is about $17 trillion in world trade. Given the fact we have 15 per cent share of the world’s population, a mere 1.7 per cent share in the world trade is dismal. ‘Make in India’ should have been ‘Make in India for the world’.
Another mistake is the bad management of the agriculture distress. We need to understand that ‘loan waiver’ is not good economics and more importantly is immoral.
ARVIND VIRMANI: How can demonetisation be responsible for growth decline in the three-and-a-half quarters before its introduction, or GST for five quarters before its introduction? According to my estimate, demonetisation is responsible for a ~1.2 per cent point decline in GDP/GVA growth in 2017 H1.
ARUN KUMAR: Q1 of 2017-18 is the sixth quarter for which the GDP rates have fallen. However, the slide was there even earlier except for the peak of Q4 of 2015-16. Further, these rates are higher due to the change in methodology of estimating national income since 2013-14. The situation would be worse if the old methodology is used. So, it appears that the situation was deteriorating even before demonetisation was launched in November 2016.
However, the big impact of demonetisation was on the unorganised sector and that is not captured in the data. The data for the unorganised sector comes with a time lag. For the quarterly growth data, the government only uses data from the corporate sector. This is all right when there is no shock to the economy but not when there is a big shock like demonetisation, which impacted the unorganised sector. The method of calculation of GDP applicable on 7 November 2016 was not valid on 9 November 2016.
All private surveys conducted in the midst of demonetisation showed that the unorganised sector declined by anything from 60 to 80 per cent. Thus, the rate of growth of the economy turned negative and the official data did not capture that. There was some recovery in this rate of growth but the GST has further dented it since it has not only impacted the unorganised sector but also the organised sector. Due to the huge uncertainty created by demonetisation and GST, the investment climate has turned adverse and that is slowing down the economy further. So, currently the rate of growth of the economy is not 5.7 per cent but likely to be around 1 per cent.
JAGADISH SHETTIGAR: The disturbing trend in economy started much before demonetisation and GST. Demonetisation certainly disturbed the economy in terms of cash crunch and this was expected. The measure ironically had a negative impact on sectors such as construction and gems and jewellery where black money used to be promoted in substantial scale. So, shouldn’t we be prepared to bear short-term pain for long-term gain in terms of transparent business environment? With regard to GST, there may be scope for improvement, especially, bringing down five different GST rates to one rate or at the most two.
Q2. The Modi government feels that these are sound economic measures for long-term economic growth. Do you buy this theory?
DAS: Yes, I think it is true. There will be a lot of positive gains from demonetisation. All the money has come back into the system and fruitful loans can now be generated. The tax base will broaden and we are beginning to see the prices dropping especially in the real estate sector. It is a good thing but I would not have done it when 86 per cent of the population’s transaction is in cash! You do not give that kind of pain to people. The chaos was avoidable. GST is a great reform. It needs good time and motion study to prove the process and the reform has a great upside. These reforms will take time. The benefits will come five years from now.
VIRMANI: I don’t comment on individuals or their actions. The negative effects of demonetisation have been indicated above. The positive effects on income tax compliance, are still a little unclear and need more data for us to estimate. Economist R. Subrahmanyam estimates it has increased the trend of digitisations.
KUMAR: The government is in a state of denial. It is trying to give a positive spin to its failures. This is to be expected but it is making the economy suffer. As a result, youth, farmers, traders and so on are protesting. The positives of demonetisation, like, digitisation could have been done without demonetisation and required a lot of preparation, which does not exist at present.
If short-term growth falters, the long-term growth cannot pick up. We need to take care of both the short and the long term. It cannot be either or. If I am dead today how does tomorrow count?
SHETTIGAR: Certainly, the two measures are gamechangers along with the bankruptcy code. The three measures are meant to clean up the system as a whole.
Q3. How would you assess the present economic condition? What all do we need to become the fastest growing economy yet again? How long could the required time take?
DAS: It is bad, but, it is not long term bad. Demonetisation and the teething troubles of GST are rarely the reasons. There are lot of things at work right now. The difficulty is that economics is a five-day test match and politics is 20-20 game. So, there is a miss match. Every reform takes time to showcase its results. We have been talking about a stimulus to get the demand up. But at the same time, I am a great believer of fiscal prudence. The government has a lot of other resources, which are locked up and they could be unlocked easily. The markets are up; the government could sell its public sector shares or disinvest and use the money. Sell at least one rotten bank, the market will go crazy.
VIRMANI: Economic growth has likely reached a trough in 2017-18 Q1 and will be ~2 per cent points higher in 2017-18 H2. The only remaining uncertainty is the transitional problems with GST, which have been accentuated by unnecessary complexity in procedures and rates.
KUMAR: In the present situation when capacity utilisation is down, credit offtake from the banks is at its lowest ever, investment is down to a low of the last 10 years and under-employment is rising, there is a crisis. So, demand is short and this has to be raised.
Only the government can do so by stepping up its expenditures via a major stimulus package. A small package of 0.3 per cent of GDP would not do. The economy has to be boosted by at least 4 to 5 per cent. That would require a boost of at least 2 to 3 per cent of GDP. This would crowd in private investment, rather adversely impacting it.
Credit rating agencies would downgrade us anyway if the present situation continues. But if the rate of growth rises, then in spite of the higher fiscal deficit they would give a higher rating. It is growth that is crucial. The spending will have to be on employment generating schemes and not just physical infrastructure, which is highly capital intensive now. So, expenditures on education, health, rural infrastructure, farming inputs, etc., will have to be stepped up.
SHETTIGAR: The current economic situation demands wholesome reforms. Unfortunately, one just can’t think of such bold steps when government has to gear up to face electoral mandate in 18 months. Measures surrounding these issues may be attempted only after 2019 elections, provided political masters have the will to do.
Q4. Why is there such low credit offtake? What can be done to encourage the private sector to invest more (apart from improving capacity utilisation from the current levels)?
DAS: People say why the industrialists aren’t investing. They are not fools. The truth is that there is no demand. Consumer demand does not just depend on the 2 trillion Indian economy. As I mentioned earlier, our share in the global trade is dismal.
Second, we need to put productive money in people’s hand. The biggest single measure that will fire the private sector is ‘ease of doing businesses’. Also, the interest rates in India are too high. They need to be brought down by at least 100 bps.
VIRMANI: Credit growth is lower because both demand and supply of credit is low. High real interest rates brought about by overly-tight monetary policy have choked demand for credit from (private) households and unincorporated enterprises to build houses and buildings. Supply of credit by banks is constrained by the high NPAs of public sector banks. Data till 2015-16 shows that investment by private corporations is doing quite well in constant price terms. My analysis suggests that this is because of deflation/lower inflation in investment goods prices. High interest rates have had less effect on corporate investment, despite modest capacity utilisation, because of their higher level of retained earnings (savings available for investment).
KUMAR: The low credit offtake is a result of low growth of the economy and the decline in investments. It is not due to high NPAs alone. As stated above, public investment will crowd in private investment. By itself, private investment will not rise. Interest rate will not have much of an effect on investment given that demand and capacity utilisation are low. Anyway, our inflation is higher than what the government statistics reveal because WPI does not take into account the services sector prices and that is 60 per cent of the output. It is services sector prices that have been rising the most in the last many years because of supply problems and also constant enhancement of service tax and not GST on services.
If services prices are factored in, then our inflation rate is close to 6 or 7 per cent and the real rate of interest are very small unlike what some analysts argue. That is why a cut in interest rate by RBI in the past one year has not helped boost investment and will not do so even now. There will be a limited impact. Could demand increase with a cut in interest rates and the EMIs coming down? Not in the present uncertain environment for the consumers who are suffering from inflation, loss of jobs, growing uncertainty due to GST, etc.
SHETTIGAR: Why would any businessman invest unless he is assured of market support for his products? When retail inflation fell below 2 per cent, economic advisors should have alerted the Prime Minister. Instead, this trend was showcased as an achievement in terms of controlling inflation.
Obviously with market shrinking, investors have not felt the need for bank credit. Bringing repo rate down may not have the desired effect under the prevailing market condition. If the market is supportive, investors don’t mind even higher interest rates.
Q5. What should be done to encourage industrial production?
DAS: A lot of people are pessimistic today with the ‘automation’ buzz around the world. But even today $17 trillion trade is in goods and if we could just raise our share from 1.7 to 2.5 per cent, we will have all the jobs we need. That is the reason I put exports at the centre priority of all.
VIRMANI: : Industrial revival would be accelerated by lower interest rates, acceleration of government capital investment in infrastructure, quick resolution of PSBs’ NPA problems, uniformity in import tariffs and greater ease of doing business with regards to taxes, labour laws and rules and land and real estate rules and procedures.
KUMAR: This will only improve if the investment climate improves and the uncertainty due to demonetisation and GST are taken care of.
SHETTIGAR: Instilling confidence among the investors by propping up demand is the only way out. Putting more money in the hands of people, especially, 10-20 per cent bracket income tax payers, may be a better option.
Q6. Is enough being done for the agriculture sector?
DAS: We are not doing enough for this sector at all. We should have followed Ashok Gulati’s advice from Day 1. Loan waiver is not the solution. The answer to agricultural distress was the creation of an open market to allow the farmer to sell to anybody he wants to. Second, was the creation of cold chains. This is precisely what multi-brand retail would have done. Allowing the entry of multi-brand retail was one of the best things the last government did and we lost the opportunity.
VIRMANI: Agriculture is one of the 3-4 sectors that has seen no economic reforms since the 1990s. The current two normal monsoons, after two consecutive droughts, provides an opportunity for thorough de-control of internal and external trade in agricultural products and major inputs like land and fertilisers. This will lead to immediate improvement of price realisations and job creation.
KUMAR: No. Agriculture needs massive support since it has been in crisis. Investment in irrigation and infrastructure is essential along with research in boosting productivity.
SHETTIGAR: Under the prevailing system, farmers are deprived of benefits of minimum support prices (MSP) provided by the government when market prices crash. Even when market prices go up beyond MSP, they are deprived of the opportunity. In both cases, middlemen corner the benefits. Unless all the states amend the APMC Act and remove middlemen, farmers would not be in a position to have direct access to market. And this requires political will among the state leaders.
Q7. Does the low job creation remain the biggest economic challenge for this government?
DAS: The biggest promise that made people vote for Modi was ‘jobs’. Now, creating jobs is not as easy as waving a magic wand in a democracy. It’s not an easy task as this government inherited a bad economy that had gone from 9 per cent to 4.5 per cent. But there are still ways to do that. They need to go out on a mission mode and get schemes like ‘Housing for all’ to accelerate job creation.
VIRMANI: I can’t recall a single year since I joined government, when employment and job creation was not a big challenge. Restoration of growth, greater labour market flexibility, focus on labour intensive exports and acquisition of job skills are possible solutions.
KUMAR: Yes. This is one of the biggest challenge. Modern industry displaces jobs due to automation. The small and cottage sectors need to be promoted in a big way. Investment is needed there and access to credit needs to be improved.
SHETTIGAR: In a country like ours, economic policies may not matter much unlike the developed countries. But no government can afford to ignore impact of policies, especially, in terms of employment opportunities and inflation. I sincerely wish the government acknowledges the crisis boldly without standing by false ego. Taking people into confidence is the best course at this point.
Q8. Do you think the PM’s move to constitute an advisory council is too little, too late; or you think it is a move in the right direction?
DAS: It should have been there from the very beginning. Because we did not have an advisory council, Niti Aayog began to play the role, which added to its burden of doing the day-to-day job of the Prime Minister, instead of long-term planning. This was inefficient. Therefore, it is a good move to have the advisory council and they have good strength. I hope the PM listens to it.
VIRMANI: It is a welcome decision. It is never too late to identify and fill gaps in policy.
KUMAR: The advisory council to the PM is being revived but it has people who were anyway advisors to the government. There was need for fresh inputs and diverse kind of advice since the usual advice is not working. It is also a vote of no confidence in the Ministry of Finance (MoF) and the Niti Aayog who were responsible for policy making and advice to the PM.
In this sense, it is a sign of panic in the government that it should be seen to be doing something. But unless the state of denial is overcome in the government, nothing new will happen.
SHETTIGAR: It is certainly a right move. Any government should be open for unbiased advice from expe-
rts. However, the time of constituting the advisory council, that too with hardly 18 months to election, makes one doubt the seriousness of the move. No government can afford to implement harsh economic measures during the last leg of the term. That is why the saying that the third year’s Budget is the last opportunity to give direction to the economy.
Q9. What should be the three most important measures for the Finance Minister to take in the next year-and-a-half to turn around the economy?
DAS: First, the Finance Minister should resist the temptation or duty to do other works. Of all the things Yashwant Sinha said in his ‘infamous’ article (I didn’t agree with the negative tone of the article), one thing was correct: ‘We have a part-time finance minister’. Arun Jaitley had four portfolios at one time. A finance minister should be a full-time finance minister. Second thing he should observe is the execution of the plans. His job is not just to project, but to also assess. He has given money to some really good projects, the best one being, cooking gas for rural women. Third, he must maintain the path of fiscal prudence. I am hoping he will meet his strategic sale and disinvestment targets which haven’t been done yet.
VIRMANI: Besides the reform measures mentioned above, the MoF must expedite the completion of subsidy reform and disinvestment in PSBs and strategic sale of loss making PSUs. Income tax (personal and corporate) also remains incomplete; the FM could combine taxes and transfers into a single system based on UID, which I call negative income tax or net income transfers (NIT). This could prove as, if not more, revolutionary than a simplified GST with three slab system (15 per cent rate, exempt (0 per cent) and 6-12 individual surcharges).
KUMAR: There is need for a massive fiscal stimulus which will revive demand. GST needs to be simplified greatly since there is a design flaw in input credit system. Employment and farm sectors need stimulation via investment in education, health and rural infrastructure.
SHETTIGAR: First, the finance minister should bring petroleum products into the GST net. This would bring down their prices by 50 per cent. Second, complete tax relief up to annual income of Rs 10 lakh. Since the marginal propensity to consume is high in this section of people, overall consumption expenditure would go up; thus improving market sentiments and thereby, encouraging investors. Third, the government should go all out in unearthing black money, especially, the one kept in tax heavens. This would earn a lot of goodwill.