Economic shudders & revival strategies

Discarding attention-grabbing slogans, the government needs to aim for real GDP growth of 8 per cent and higher

The central government ought to be red-faced about the 5 per cent GDP growth rate for the first quarter of 2019-20. In 2014, the Bharatiya Janata Party-led government had inherited public sector banks (PSBs) weighed down with non-performing assets. On the positive side, international oil prices have been at relative lows and domestic inflation has been muted for the past few years. Partisan supporters of the government explain away the slowdown through unsolicited Whatsapp messages, which gush that India’s 5 per cent growth is high compared to growth rates in developed countries. Such growth rate comparisons with G7 countries are irrelevant as most Indians do not have access to the social, health and unemployment benefits provided in developed countries.    

illustration: Binay Sinha

The stark reality is that rural and urban demand has slumped in India. Among many factors this is due to what I would call a triple balance sheet problem. The twin balance sheet problem (Economic Survey 2016-17) afflicting major private sector borrowers and lenders was caused by irresponsibly high loan disbursals during 2008-12. The third balance sheet belongs to those who purchase cars, scooters, consumer goods and services using their credit/debit cards for payment through equated monthly instalments (EMIs). Many among these demand groups are unwilling to increase their EMI payments because earnings shocks caused by demonetisation and slower than expected disbursal of GST refunds have persisted. 

An important factor constraining foreign demand for Indian products has been the significant overvaluation of the rupee. On September 19, 2019, the RBI governor citing a July 2019 IMF report commented that the rupee’s real effective exchange rate (REER) is close to its correct value. An RBI report again dated July 2019 mentions that the rupee’s REER is overvalued by 24.6 per cent against a basket of six currencies. It is strange that the RBI governor prefers to quote the IMF report on the rupee exchange rate. 

Higher lending by Indian banks and non-banking finance companies (NBFCs) would help revive domestic demand. However, Indian financial institutions are hesitant to push up lending. Lenders are circumspect because defaulting borrowers are managing to retain assets pledged as collateral at the time of borrowing, although others have bid for such assets through transparent processes. The February 12, 2018, RBI circular had prescribed that lenders have to recognise default as soon as it happens and borrowers had 180 days to resolve matters with lenders before the latter were obliged to take the matter to a National Company Law Tribunal (NCLT). Borrowers need to be in touch with lenders well before default happens to extend repayment deadlines or look for bridge loans from other sources. In this context, the quashing of the February RBI circular by the Supreme Court on April 2, 2019, was a monumental blunder. The RBI and government should have jointly pleaded in support of this circular. Apologists for recalcitrant borrowers suggest that they be allowed to retain their assets and helped by lenders to recover. Limited liability legislation allows promoters to retain personal wealth and only what was pledged can be attached by lenders. 

The government seems to have reverted to expecting PSBs to show infinite patience and in practice this often results in collusion with large borrowers. The remedies go back to proposals including one made by the Banks Board Bureau for board members of public sector banks to be chosen for their domain knowledge and unimpeachable integrity. Additionally, speedier resolution of cases pending with NCLT is needed. At this stage it appears as if the Insolvency and Bankruptcy Code and Insolvency and Bankruptcy Board of India may become irrelevant much in the same way as the SARFAESI Act of 2002 and corresponding debt tribunals. 

Government could raise resources, from foreign and domestic sources, by reducing its equity holdings in LIC and Coal India to around 60 per cent. Air India, MTNL and BSNL continue to suck up resources and it is high time the government reduced its equity shares in these entities, preferably by attracting foreign investment. If funds are accessed only from domestic sources, financing support could be drawn away from other local investments. 

On September 20, 2019, government announced significant reductions in corporate tax rates. This measure could boost demand but with a lag if companies pass on higher retained earnings to employees and reduce prices. Domestic and foreign investments could increase over time if the lower tax rates are competitive in comparison to alternative investment destinations. The downside though is immediate since government may lose up to about Rs 1.4 trillion ($20 billion) of revenue during 2019-20, and the centre’s fiscal deficit could rise well over 4 per cent of GDP leading to higher interest rates. The GST Council has done its bit to revive “animal spirits” and has reduced GST rates on hotel accommodation and that should have a positive impact on tourism. 

In the first four months of 2019-20, about $5.8 billion left India under the liberalised remittance scheme (LRS), and during 2014-19 the total amount remitted abroad amounted to $45 billion. The comparable amount for 2009-14 was much lower at $5.5 billion. By contrast, inward foreign direct investment has risen and amounted to $42 billion in 2018, according to UNCTAD’s World Investment Report 2019. However, the sizeable LRS outward remittances should be a matter of concern. 

To conclude, there is an unreal air to the way government has harped about a $5 trillion Indian economy by 2024, which diverts attention from the urgent need to raise domestic and foreign demand for Indian goods and services. A few months back a senior Ministry of Finance official demonstrated his lack of understanding by suggesting that if the Indian rupee were to appreciate, India could easily reach the $5 trillion goal. Discarding attention-grabbing slogans government needs to aim for real GDP growth of 8 per cent and higher annually in rupee terms, which is a tried and tested way for India to raise employment and reduce poverty.  

  The writer is former Ambassador, senior Ministry of Finance official and World Bank Treasury specialist; j.bhagwati@gmail.com