Four Building Blocks for Resurgent Growth

The recently released provisional estimates of national income by the Central Statistical Office gives a bit of thumbs up to the Narendra Modi government’s performance in the first year of its tenure. We are now informed that the macro economy [measured in real GDP] has cruised at an impressive rate of 7.3 per cent in 2014-15 [revised marginally downwards from 7.4 per cent in the advance estimates in February] as compared to the growth rate of 6.9 per cent in 2013-14 when the United Progressive Alliance was in office. It is quite legitimate for the government to proclaim this as a significant turnaround in the economy. If there had been no major setback to the agricultural sector due to the wayward monsoon behaviour, then the growth rate could have easily surpassed 7.5 per cent in 2014-15.

Interestingly enough, the official spokespersons are now waxing eloquent that Q4 2014-15 growth rate of 7.5 per cent has overtaken that of China. Surely it does; but the government needs to be ensure that this is not a transient triumph. What matters most is to ape China not only in a singular quarterly growth rate, but also in its unprecedented quarter century of miraculous double-digit annual growth! That, we believe, has been the aspirational goal of the Modi government so far, and the next four years should, therefore, be used to create sound building blocks for such an accomplishment.

Which sectors have contributed to the moderate real GDP growth acceleration in 2014-15? Does it mark a significant turnaround in India’s economic performance? How will the government take forward this moderate growth momentum and strategise the longer-term aspirational target of sustainable 8.5 per cent to 9 per cent growth rate? These issues should now be the primary focus in the economic policy formulations of the government.

Trouble Spots in Growth Recovery

Let us look at the trouble spots of the growth recovery story. It is axiomatic that issues of “methodology” and/or “credibility” of the new series of national accounts, which engaged considerable attention of many eminent economists and the of RBI, ever since these series were released in January, would not be of much consequence now. Therefore, the new series alone would form the basis of macro economic analysis, forecasting, policy making as well as for global comparison. Further, the international institutions like the International Monetary Fund (IMF), World Bank and Asian Development Bank (ADB) have already made necessary corrections in their previous growth estimations for the current and future years.

First, the setback to the agricultural sector is certainly an area of huge concern. Indeed, the agricultural gross value added (GVA) growth rate turned negative in the last two quarters: -1.1 per cent and -1.4 per cent in Q3 and Q4 of 2014-15, respectively. The worsening of the agrarian crisis is certainly associated with this dismal performance. The Modi government, which claims strong credentials in natural disaster management, was perhaps found wanting in mitigating the widespread distress among farmers. Needless to say, for stable, stronger and sustainable economic recovery, it is imperative for the agricultural sector to secure an annual growth rate of at least 3.5 per cent to 4 per cent.

Second, there appears to be a noticeable turn-around in the manufacturing sector. Except for Q3 of 2014-15 [when its growth rate slipped to 3.6 per cent] this sector scored handsome growth rates in the remaining three quarters. In particular, the growth rate of this sector accelerated to 8.4 per cent in Q4 2014-15, as compared to 4.4 per cent in Q4 of 2013-14.

But neither the index of industrial production (IIP) nor key infra-structure industries production numbers give credence to such high manufacturing performance. This sector has to expand consistently at a much faster rate to make a visible positive impact on the current industrial and investment outlook. In turn, this would make a distinctive difference to the finances of the corporate sector as well as the micro, small and medium enterprises (MSME) sector. Moreover, that alone would restore tax revenue buoyancy for the government and relieve the banking system from the quagmire of its growing non-performing assets (NPAs).

Third, a predominant part of growth recovery has also been made possible by the services sector scoring a little over double digit growth, with stronger performance of the sub-sector “financial, real estate and professional services”, which gathered momentum at the rate of 11.5 per cent in 2014-15 as compared to 7.9 per cent in 2013-14.

The sub-sector “trade, hotels and transport and communications” also scored growth rate of 10.7 per cent in 2014-15, albeit it was slightly lower than 11.1 per cent in the previous year. However, to sustain such high services sector performance, the commodity sectors like agriculture, mining, quarrying and manufacturing as well as construction sector have to expand at a much faster pace, going forward.

Fourth, an important revelation from the national accounts data is that foreign trade [imports + exports of goods and services] as percentage of GDP has been progressively declining – the share was 55.6 per cent in 2012-13, 51.3 per cent in 2013-14 and has dropped to 47.1 per cent in 2014-15. The fall in international crude oil and commodity prices offers one explanation, and is most welcome. But more worrisome factors are: [a] contracting exports, perhaps indicative of falling export competitiveness; [b] subdued global export markets; and [c] decelerating capital goods and project imports, reflecting stagnant investment activity.

Does this mark a retreat of globalisation for the Indian economy? This issue must exercise the attention of the concerned policy makers in the government, and also of the RBI – the latter specifically on issues concerning appropriate exchange rate of the rupee.

Last, the economy’s two major macro growth drivers are consumption demand and investment demand. Concerns of fiscal consolidation have apparently led to some slowing down of government’s final consumption expenditure growth, which doubtless, is a welcome feature. But stagnation of private final consumption expenditure growth is becoming a matter of great concern. This is seriously impairing the fortunes of manufacturing sector.

Even more worrisome is the continued drift in the investment ratio, manifesting in gross fixed capital formation [GFCF] to GDP ratio, which, at constant prices, declined from 31.9 per cent in 2012-13 to 30.7 per cent in 2013-14 and further to 30 per cent in 2014-15. Indeed, if one were to look at this ratio over the last six-odd years, the collapse of domestic savings and investment activity becomes far more conspicuous – effectively, the economy has witnessed a contraction of as much as 6-8 percentage points drop in both savings and investment ratios.

For the economy to expand at a faster pace, the savings ratio has to surge from its current level of about 30 per cent to 35 per cent and GFCF needs to move up from 30 per cent to 36-38 per cent.

Road Map for Aspirational Growth

Going forward, the Modi government will have to leverage the advantage of the “feel good” factor emerging from growth numbers of 2014-15. Several trouble spots and fault-lines have already come to the fore. Many well-meaning policy suggestions have also been thrown up in the on-going debate on the report card of the government. What is now required is the commitment to deal with them and rigorously implement policies and programmes that have already been proclaimed by the government thus far.

Surely, the logic of incremental positive change would take the economy towards a sustainable 8.5 per cent to 9 per cent annual growth rate. But for this, the government must strategize four crucial building blocks:

First, it must convert the prevailing agrarian crisis into an opportunity by expediting implementation of various budgetary proposals like expansion of irrigation schemes, rural infrastructure development, and improvement in the quality and effectiveness of MNREGA, etc. Under no circumstances should the rationalisation and reduction of subsidies become a victim of political pressures. What the agriculture sector truly needs is a holistic reforms agenda with a focus on [a] reduction of pressures on the rural economy through creation of greater avenues of non-farm jobs; [b] combating continuous fragmentation of land holdings; [c] diversifying the cropping pattern, keeping in view the changing pattern of household consumption; and [d] bringing urban comforts and amenities to rural surroundings.

Second, if the dreams of achche din have to be translated into reality, then what the common man is looking for is not just inflation control, but also a focus on employment growth. For too long has the country suffered the phenomenon of “jobless growth”. Hence, among other things, the emphasis has to be on acceleration of promised public spending on infrastructure [including creation of 100 smart cities], housing for all, Skill India movement, promotion of self-employment, strengthening of financial inclusion, encouraging foreign direct investment (FDI) inflows in employment generating areas [also resolving the confusing position on multi-brand retail].

Third, “Make in India” has become a key dictum of government’s policy. The time is now most opportune to walk the talk. Hence, the government must progress with many policy decisions on this score [including the game-changing goods and services tax]. Also, it must lend ears to some sound advice of its own Chief Economic Advisor, who recently made four well-meaning policy propositions: [a] scrap the proposal to impose 1 per cent tax on inter-state sales as an integral part of GST; [b] calibrate the exchange rate – don’t allow the rupee to become more uncompetitive; [c] reduce the key policy rates in conformity with falling inflation rate, improved fiscal management and the global environment; and [d] liberalize FDI norms in multi-brand retail.

Fourth, the issue of stalled projects in sectors like infrastructure, manufacturing, mining, power, etc. has been engaging the attention of the government for last one year. The stock of such projects was placed at Rs. 8,800 billion or 7 per cent of GDP as of end-December 2014. We believe this is an area of huge opportunity provided the government makes concerted efforts to resolve issues of land acquisition, environmental and non-environmental clearances, ease of doing business, etc.

Expeditious implementation of stalled projects would gradually improve the balance sheets of both the corporate sector and public sector banks, which, in turn, would release constraints of investible resources.

All in all, the turnaround of 2014-15 can truly mark a beginning of a resurgent long-term growth story of the Indian economy, provided at least these four points are addressed.