I was surprised to read the recent article by Raghuram Rajan on India’s slowing. In his piece, he identifies two reasons: one, he says India’s economic institutions were not ready to support a high growth, and two, he points to global financial crisis. But in both cases, he argues that the political system stepped in to save the poor and the weak against institutional failures and against unbridled development; and the political reaction led to the fall deceleration.
It is indeed a strange take on the recent issues in India. The first question to ask is this: if indeed the economic institutions failed the people, who created those economic institutions? It is the politicians! The political class has been far from being the saviors of the poor, weak, oppressed, swindled and the trampled masses; indeed, it is the political class that has been doing the oppressing, the trampling and the swindling of the people.
I am not sure why Rajan argues this way, but I hope that he has not become a part of the “system” after serving as the chief economic advisor to the government. I also hope the possibility of his nomination as the next governor of the Reserve Bank of India has nothing to do with this line of argument.
Why, then, did Indian growth decline back to the disappointing “Hindu rate of growth”? There are many structural imbalances in the economy that have impeded India’s potential to achieve high growth rates. To start with is the persistent fiscal deficit (4.9% of GDP for 2012-13), which can be traced not only to the traditional food, fuel and fertilizer subsidies, but also to the newer employment guarantee programs started by the current Congress government.
The high fiscal deficit also leaves little money for infrastructure investment or development expenditure. India’s power sector, for example, has perpetually run at a deficit of 7-10% and suffered a power blackout in July 2012 that left 620 million people or half of the country’s population without power! In the southern state of Tamil Nadu, for example, my mother still suffers from power cuts of 2 hours when she is in the state capital of Chennai, and 10 hours when she travels to the other cities in the state.
India’s current-account deficit has soared in the last five years from 1% to 4% of GDP, thanks to global oil prices and Indians’ insatiable lust for buying gold. (In fact, the deficit hit 6.7% of GDP for the Oct-Dec 2012 quarter.) At the same time, exports have faced headwinds from the economic slackening in the U.S. and Europe. Besides, barring a few companies, Indian manufacturers have not risen to the challenge of building themselves into sustainable exporters in terms of scale, technology and cost-competitiveness.
India’s balance of payments has always been dependent on foreign capital inflows (except for a couple of years in the mid-2000s when the current account moved close to break-even), but the recent widening of the current account has made the task of attracting foreign capital even more critical.
Investment, both domestic and foreign, depends ultimately on confidence. After all, investors are trusting that their money would come back to them with a reasonable return. Indian politicians have singularly failed to create and sustain confidence in the economy.
For many years, the Congress-led coalition has governed the country without instituting any meaningful structural reforms. Even the few initiatives that it tried to advance, such as the nuclear agreement with the U.S. and opening up of the multi-brand retail sector, faced considerable headwinds in the political system. Congress’s allies also put up a price for their support on every single issue. Although now postponed to 2016, India’s attempt to change the taxation principles for foreign investors investing though third countries such as Mauritiusalso produced considerable uncertainty for investors.
Corruption has played a big role in turning off investors. Instead of positive reforms, corruption
scandals emerged with regularity. Who would want to invest in the telecom sector if they faced the prospect of the licenses being cancelled? Coalgate (as the coal-sector scandal is popularly called) managed to slow investments in the coal sector. Before that, the 2G telecom licensing scandal led to the mass cancellation of licenses, leading to the withdrawal of some international telecom companies.
It is clear that India is fighting the fire with some measures to control the fiscal deficit, retain the investment-grade credit ratings, ease the flow of investments into infrastructure, and revive the economic growth. It is the long-established pattern again: India will act only after facing the crisis.
Who is responsible for this mess? Rajan may feel that the political process is the necessary corrective factor against unbridled market forces. In reality, it is the political class that has brought the country down.