Whatever the government is doing is likely to ensure economic recovery from the third-quarter, but the pace of recovery depends on whether we finally get our monetary policy right after having got it wrong for so long.
Of late there has been a lot of discussion on India’s consumption slowdown. There are many domestic factors that have been a drag on the economy. The global slowdown has also had a significant spill-over effects on the Indian economy.
However, not everything is as gloomy on the economic front as it appears from the pink-papers. There are many positive factors that are likely to ensure economic recovery from the third quarter onwards, but this recovery is likely to be muted during the second half of this financial year.
Nevertheless, there’s a lot to cheer from the next financial year onwards as the economy would have resolved a lot of the structural challenges that have been a drag on our growth over the last couple of years.
Elections are likely to have worsened the slowdown during the first quarter of this financial year. It is no secret that during elections government have severe restriction in terms of spending etc., therefore, government spending during the months of April and May is likely to have been lower.
Some may argue that election expenditure by political parties should partially compensate for this, but one must always remember that the government is the largest spender and it is very difficult to fully compensate for the lack of government expenditure.
With elections behind us, government spending is back on track and therefore, this factor will not drag growth anymore. Another important factor is regarding the NPA (Non-Performing Assest) crisis, which looks largely resolved as we’ve witnessed a lower number in the absolute value of NPAs for several banks.
Therefore, we can see a significant improvement in bank balance sheets (provided that growth stays robust) over the next couple of months. This is likely to have a positive impact on the availability of credit.
Another area of concern, and this has adversely affected our automobile and consumer durable sector, is the liquidity issues in the NBFC (Non-banking Financial Companies) space. The budget has announced a slew of reforms to revive the sector that is a critical enabler of consumption growth.
The government has recently relaxed norms under the external commercial borrowings for corporates and NBFCs. These factors will be instrumental in further strengthening the NBFC sector, which acts as an important agent in terms of providing last-mile credit for consumption across the country.
Recently, the Finance Minister highlighted that GST could soon evolve to have three rates (including 0) and that the recommendations of the Direct Tax Code will be taken up immediately. These two measures are going to be critical towards facilitating a revival of our growth rate over the next couple of quarters.
Therefore, there’s a lot of positive on the economic front and recovery looks highly likely from the third quarter. However, the reason why recovery is going to be slow is the MPC (Monetary Policy Committee) and their misguided monetary policy.
India has had one of the world’s highest real interest rates in the world over the last couple of years and this, at a time when there was an existing NPA crisis, is likely to have made matters worse. Despite a rate cut of 110 basis points, our real interest rates are still too high.
High cost of capital is only delaying recovery of stressed assets and it’s curtailing the growth of Indian firms by making them less competitive. At a time when global real policy rates are between 0 to 1, we have our rates at 2.2 per cent. Clearly, there’s an urgent need to reduce our repo rates more aggressively to bring down our real interest rates to globally comparable levels.
Therefore, while whatever the government is doing is likely to ensure economic recovery from the third-quarter, the pace of recovery depends on whether we finally get our monetary policy right after having got it wrong for so long.
As sector-specific concerns get addressed over the next couple of months and we witness reforms in areas such as taxation, the growth rate will move back to seven per cent plus from next year onwards. However, sustaining it would require lowering of real interest rates.