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Familial Discord

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Some wives are known to be fond of spending. Their excesses can cause discomfort if not embarrassment to husbands. Some husbands may not be able to control their anger, and may mete out punishment. Such a relationship is undesirable, but it is not uncommon. It is not peculiar to families; it seems to exist between the government of India and its Reserve Bank. The government simply cannot control its spending; since it can borrow without limit from the Bank, it  can spend as if there is no tomorrow. The Bank discovers only at the end of the month how much money has disappeared. Once in a while it loses its temper, and raises the bank rate. The punishment is only symbolic, for if the government has to pay higher interest on its borrowings, it can finance it from money out of the Reserve Bank's vaults. So the couple's behaviour has the characteristics of a ritual dance.

They were not always so incompatible. Their relationship reached a nadir in 1990-91, when the government ran a deficit close to 8 per cent of gross domestic product. The Reserve Bank ran out of money, and had to fill airplanes with gold and send them to the Bank of England. That knocked some sense into the government. For the next decade it kept deficits more or less below 6 per cent of GDP. Then for a while it became positively virtuous and brought the deficit steadily down. Then it got into bad company and started throwing money around; when anyone asked why it was being so thoughtless, it said it was giving the money to the poor. It spent so much that there was not enough in the market to buy, and prices began to go up. And true to its religious beliefs, the Reserve Bank went on raising the bank rate. Since the beginning of 2010, it has lost all restraint; starting from 4.75 per cent, it has raised its repo rate to 8.75 per cent.

The government and the Reserve Bank obviously enjoy their ritual dance; but its consequences for the economy are dire. From its peak close to 15 per cent at the beginning of 2010, industrial growth has fallen close to zero. The payments deficit has been rising, and the exchange rate has been under pressure. The Reserve Bank sells foreign exchange from time to time; but looking at domestic inflation and the balance of payments, it has concluded that the exchange rate is unsustainable, and has allowed it to depreciate. It would like to raise the bank rate even further, but GDP growth is coming down so rapidly that it dare not deflate it further. Between them, the government and the Reserve Bank have brought the economy to a position where macroeconomic weakness calls for a stimulus and the yawning payments deficit calls for a tightening. The only policy they can agree on is devaluation of the rupee. That will only add to the high domestic inflation. So the nation has an assurance that it will have a combination of low growth and high inflation.

What is remarkable is that the leaders who have brought India to this pass are the ones who rescued it from the crisis of 1991. If they did such a great job just two decades ago, they cannot have lost all their skills. So one has to give them the benefit of the doubt and say that they are unlucky. But that too is difficult to swallow. At the base of the poor performance are the chronic fiscal deficits and the accumulated hoards of foodgrain; these are not due to bad luck but deliberate, persistent policy. So it is difficult to avoid the conclusion that the heroes of 1991 have knowingly dragged the economy into its present crisis. When they finish with the economy, they will no longer be heroes.

They cannot have done so by forgetting their economics; they must have some other good reason for doing so. And the good reason is politics. They ran the fiscal deficits to buy the votes of poor landless farmers, and they bought up foodgrain to reward rich farmers. Whether their political calculations were right or not will be proved by the next general elections, which are getting ever closer.

Their path to power requires running the Indian economy aground. But they leave us with some questions to answer. The first one is, how did the leadership that led India to such path-breaking reforms in the early 1990s also lead it into the crisis of 2012? And if the answer is that political opportunism overcame economic rationality once they were ensconced in power, the next question to ask is, which way will they be swayed if they come back to power? It can no longer be taken for granted that they will always decide in the best interests of the nation. However, there is no cause for despair; the old generation may well give way to a new one.

(This story was published in Businessworld Issue Dated 04-06-2012)