I had the privilege of being able to attend a couple of investment conferences in India over the last week. One clear takeaway was that policy makers and independent observers are now reconciled to 6.5 to seven per cent GDP growth. Many people privately conceded that India is likely to bump along at these growth rates for some time, unless and until policy-making improves. Most doubted that the country would get back to the nine per cent growth trajectory any time soon, and were quite dismissive of the 12th Plan target of nine per cent. There was also a feeling that seven per cent is actually quite OK, still making India the second fastest-growing economy in the world, and something the West would die for.
Of the two, this acceptance of seven per cent growth bothered me more. My own sense had been that seven per cent growth was the absolute worst-case outcome for India, pretty much assuming nothing significant gets done. It was worrying to see sensible people arguing that this is now the base case.
There is a huge difference in the long-term economic outcome of growing at seven per cent versus nine per cent, with a palpable difference in people’s quality of life and pace of poverty reduction. It also makes a difference in the way global investors will look at the country. Most of the emerging-market giants have had a burst of growth in their economic history when their economies were delivering near-nine per cent growth on a regular and sustained basis. If all India can do is five years of that and then struggle and decelerate to seven per cent, the excitement around India, its long-term economic future and the uniqueness of its growth potential will certainly diminish. Given the amount of capital flows (both foreign direct investment and foreign institutional investment) that we need to attract on an annual basis, we cannot afford investors losing interest.
There is also a significant difference in the outlook for corporate profitability. When growth accelerates to nine per cent, it has a leveraged effect on profits — taking baseline earnings growth for the market to beyond 20 per cent, just as profitability gets disproportionately impacted if growth slows. Slowing corporate profitability will affect our overall savings rate, as well as corporate investment and hiring plans. Companies will be less willing to have a mindset of “build it and they will come”, which drives corporate capital expenditure in many sectors.
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This slowing of growth will also have a similar, leveraged impact on tax buoyancy and government tax revenues. India’s best years in terms of tax collection outperformance were the high growth years of 2003-07. How will the country be able to finance its social agenda, yet keep the fiscal in check, with only 15 per cent tax revenue growth (implication of seven per cent GDP growth)? Unless it raises taxes, which has its own growth-debilitating effects.
There also does not seem to be enough political debate in India about this growth slowdown. It will soon become obvious to the political class that without high growth, it will not have the resources it needs to sustain its social agenda. There should be a kind of social contract between the politicians and economic policy makers. The economists will be allowed to do the necessary to deliver high growth, and in return the political class can spend the fruits of this growth on a clearly needed social agenda. Having tasted high growth, and given the aspiration level of our youth, the political classes seem to be strangely complacent about the political, economic and social implications of a permanent downshift in growth.
Hopefully, this scepticism on India’s trend growth is just cyclical and as financial markets and growth prospects improve globally, the country will regain its growth mojo. Clearly, we still have the potential to deliver nine per cent growth; it is only our policy and governance limitations that are holding us back.
Investors want the government to focus on two things. First, get the fiscal under control. We have effectively achieved zero fiscal correction in the last 20 years. The global financial environment will not let us persist with a consolidated double-digit deficit forever. The high growth years of 2003-07 were marked by a significant fiscal correction which created the space for private investment and a lowering of interest rates. We need, most importantly, to improve revenue, through a negative list for services taxation, the goods and services tax, introduction of the direct taxes code, etc. We also need to improve the targeting and rationality of our subsidy framework, especially fuel and fertiliser.
The second issue that needs attention is improving the business environment. Private sector capital expenditure drove India’s growth acceleration. But businessmen keep complaining about the difficulty in doing business in India. In the World Bank’s annual “ease of doing business” survey, India ranks as the worst country in South Asia, with a ranking of 132 out of 183. Even Pakistan is at 105, with Sri Lanka at 89. Our biggest weakness is in getting construction permits, where we rank at 181, and in enforcing contracts where we rank at 182. We should have an empowered task force that can take up these and other issues to ensure our ranking on this independent survey improves by at least 20 places annually. We need to make the systemic and procedural changes required to make operating a business in India easier. Unless the business mood and confidence improve, and entrepreneurs find it easier to operate in India, they will continue investing overseas, instead of at home.
Growth has its own dynamic. We had done a lot of hard work to convince both ourselves and foreigners that we can, and deserve to, grow at nine per cent. It would be tragic if we were to lose this growth momentum and belief. Once economic agents start doubting our long-term growth trajectory, it will lead to many adverse and unanticipated economic consequences.
The author is fund manager and CEO of Amansa Capital.
akashprakash@amansacapital.com