Vivek Kaul
In the recent past, politicians belonging to the Congress led United Progressive Alliance have often remarked that India will be back to a high economic growth path over the next few years. The latest such comment came from finance minister P Chidambaram on January 16, 2014. As Chidambaram said “As global economy recovers and as new measures take effect, I am confident that Indian economy will also get back step by step to the high growth path in three years.”
This confidence seems to suggest that high economic growth in India is a given and come what may it will come back. But history suggests that is clearly not the case. Economic growth can never be taken for granted.
The Global Emerging Markets Equity Team of Morgan Stanley in report titled Tales from the Emerging World dated January 14, 2014, points out “In a recent paper, former [American] Treasury Secretary Lawrence Summers warns that of all the factors that drive economic growth the one with the most clearly proven predictive power is simple regression to the mean.” Regression to the mean is a technical term which essentially means that a variable that is highly distinct from the norm tends to return to “normal”. Summers has co-authored the paper titled Asiaphoria Meet Regression to the Mean with Lant Pritchett.
In simple English what Pritchett and Summers are saying is that high economic growth rates tend to revert to their long term averages. As they write “Episodes of super-rapid growth tend to be of short duration and end in decelerations back to the world average growth rate. Both China and India are already in the midst of episodes that are historically long and fast.”
Hence, high economic growth rates can never be taken for granted. “The growth rate, even in successful economies, will tend to revert to the long-term average for all economies (which is about 1.5 to 2 percent). Summers[along with Pritchett] analyzed all 28 nations that, since 1950, have experienced periods of “super rapid growth” of more than 6 percent a year. These booms tend to be “extremely short lived,” with a median duration of nine years, and “nearly always” end in a significant deceleration, with a median deceleration of 4.65 percentage points to an annual GDP growth rate of just 2.1 percent, or “near complete regression to the mean.” In short, the nations catching up most rapidly now are increasingly less likely to continue catching up in the future,” the Morgan Stanley authors point out.
As mentioned, periods of high economic growth rates last for a median period of 9 years. The research paper considers data up to 2011. And by that time, the economic growth in India had lasted for a period of around 8 years. In China, it had lasted 32 years.
While Indian politicians might like to think that it is just a matter of time before economic growth comes back, that may not be the case. As Pritchett and Summers write “The single most robust and striking fact about cross-national growth rates is regression to the mean. There is very little persistence in country growth rates over time and hence current growth has very little predictive power for future growth.” Given this, just because the Indian economy has grown at a high growth rate between 2004 and 2011, that does not mean that it will continue to do so in the future as well.
Pritchett and Summers do not get around to explaining the major reasons behind why this happens (the research paper is still work in process). But one of the reasons they point out is the rule of law. As they write “we suspect that the reason for slowdown that will come in China and India is for a similar reason but which will manifest differently given the very different politics. That is, in neither country does investor confidence rely on rule of law.”
But there is other research which points out why poor countries are not able to sustain high economic growth beyond a point. As the Morgan Stanley authors point out “New research, however, shows that “development traps” can knock countries off the catch-up path at any income level. The challenges of developing industry — backed by better banks, schools, regulators, etc. — do not accumulate and confront an economy all at once. They continue to harass an aspiring nation every step up the development ladder.” This is already playing out in India.
In fact, countries flatter to deceive, do well in one decade and don’t do well in the next. “In some cases, development traps can drag newly rich countries back to the middle income ranks, as has happened in the last century to Argentina and Venezuela. Since the late 1950s, many nations have also slid back from the middle to the lower income class, including the Philippines in the 1950s, and Russia, South Africa and Iran in the 1980s and 90s. On average, more nations regress to a lower income level than advance to a higher one. And every decade tosses up new convergence stars — from Iraq in the 1950s to Iran in the 60s and Malta in the 70s — that burn out in the next decade,” Morgan Stanley authors point out.
Hence, sustained economic growth is a very rare phenomenon. And just because India has grown at a fast economic growth rate in the past, it may not do so in the future. The highly optimistic UPA politicians need to start by at least appreciating this point.
The article originally appeared on www.firstpost.com on January 21, 2014
(Vivek Kaul is a writer. He tweets @kaul_vivek)
P Chidambaram
Of Chidambaram, Salman Khan and the great Indian hope trick
Vivek Kaul
So India is out of trouble. The current account deficit for the period July to September 2013 is down to 1.2% of the GDP in comparison to 5% of GDP a year earlier. The current account deficit is the difference between total value of imports and the sum of the total value of exports and net foreign remittances. Or to put it in simpler terms, it is the difference between outflow (through imports) and inflow (through imports and foreign remittances) of foreign exchange .
The gross domestic product (GDP) grew by 4.8% during July to September 2013 as compared to the same period last year. This was much better than the growth of 4.4% seen during April to June 2013.
And given this improvement, the Indian economy is starting to recover. Or so we are being told by politicians, bureaucrats, financial firms and stock brokers. The great Indian hope trick is at work. Leading the pack is finance minister P Chidambaram. “ We are going through a period of stress but there is a ground for optimism…we hope things will become better in the second half of the current fiscal,” he said on December 2.
Montek Singh Ahluwalia, the deputy chairman of the Planning Commission, seems to be more optimistic than Chidambaram and he expects the GDP growth rate “in the second half of the current year to be better than the first half.”
That might very well turn out to be the case. But whether India grows at 4.8% or 5.1% that is purely of academic interest. It doesn’t matter. If the country needs to get people out of poverty it needs to grow at 8-9%. And the way things currently are it looks very difficult to achieve that kind of growth.
In a speech which was published as an editorial in The Times of India, Chidambaram said “In 2014-15 our growth rate will be close to 6 per cent, in 2015-16 it will be close to 7 per cent and, in the year after, we will be back to the high growth of 8 per cent.”
This is the great Indian hope trick at work. Yes things are looking a lot better on the current account deficit front and GDP growth also seems to have picked up, but there are a host of other economic factors which indicate that getting back to an era of high economic growth will be difficult.
1) The consumer price inflation was at 10.09% in October 2013. Food inflation was even higher at 18.2%. Half of the expenditure of an average household in India is on food. In case of the poor it is 60%. In such an environment people are likely to postpone other forms of consumption which are not immediately necessary, given that more and more of their money goes towards buying food. And this has an impact on economic growth. (In order to understand how inflation is inversely proportion to growth, click here).
2) The slowdown in consumption is clearly visible in the private final consumption expenditure(PFCE) which forms around 60% of the overall GDP, when measured from the point of view of expenditure. The PFCE for the period between July and September 2013 grew by just 2.2%(at 2004-2005 prices) from last year. Between July and September 2012 it had grown by 3.5%. What this tells you is that people are postponing consumption because of high inflation.
3) A slowdown in consumption is visible in a slowdown in car sales. In the month of November car sales of the major players Maruti Suzuki, Hyundai and Tata Motors were down. It is worth remembering that car sales unlike a lot of economic statistics is a real number and not a theoretical construct. Car sales of Maruti Suzuki fell by 5.9% to 85,510 units. The sales of Hyundai were down to 33,501 units by 3.6%. Tata Motors was the worst of the lot, with sales down by 39.8% to 26,816 units. What this tells you again is that people are postponing consumption because of high inflation.
This lack of demand is also reflected in the slowing down of consumer durables output. As Sonal Varma of Nomura wrote in a research note dated October 11, 2013 “consumer durables output growth remained in the negative, possibly due to a sharper slowdown in white goods production.” This is a clear reflection of the fact that people are not interested in buying things.
4) Economic growth in large parts of the world slowed down after investment bank Lehman Brothers went bust in September 2008. India beat the trend and continued to grow. This was primarily on account of the fact that the government decided to spend a lot of money in comparison to what it was doing in the past.
Given this, the actual fiscal deficit for the year came in at Rs 3,36,992 crore, though the target was Rs 1,33,287 crore. So the fiscal deficit basically more than doubled from a target of around 2.5% of GDP to an actual of 6% of the GDP. Fiscal deficit is the difference between what a government earns and what it spends.
This year the government of India does not have the same sort of flexibility. Data released by the Controller General of Accounts (CGA) shows that between April and October, 2013, the fiscal deficit touched 84.4% of the annual target. The fiscal deficit target for the year is Rs 5,42,999 crore or 4.8% of GDP. During the first seven months it was at Rs 4,57,886 crore or 84.4% of the target, suggesting that Chidambaram has very little room left to manage the fiscal deficit.
In this scenario there is very little chance for the government to increase expenditure to drive economic growth. In fact, if one looks at the GDP numbers for the period July to September 2013, the government final consumption expenditure fell by 11.7% in comparison to the period between April and June 2013.
5) Also, it is more or less certain now that the finance minister P Chidambaram will meet this year’s fiscal deficit target by delaying payments. .Reuters columnist Andy Mukherjee explained this best in a column he wrote on October 25, 2013. “India’s government recognizes revenue and costs not when it actually incurs them, but when it writes or receives cheques. By simply delaying payments, New Delhi can therefore give the impression it is sticking to its promise of keeping this year’s budget deficit within 4.8 percent of GDP,” wrote Mukherjee.
So oil marketing companies will not be paid for their under-recoveries in this financial year. Similarly, the Food Corporation of India(FCI) will not be compensated for the grains that it sells at a subsidised price, this year.
What this means is that by postponing payments, the current government will leave a bigger headache for the next government. As economist Abheek Barua writes in a column in the Business Standard “Let’s face the fact that even if Finance Minister P Chidamabaram were to produce a 4.8 per cent fiscal deficit-to-GDP ratio in 2013-14, it would not mark the end of India’s fiscal woes. The only way to compress the fisc this year is on the back of a hefty deferment of big-ticket expenditures such as subsidy payments for oil and fertilisers…How will a new government handle this? Will it have the courage to prune or jettison some of these revenue-guzzling welfare programmes, and risk eternal damnation by voters? Can it afford to finally do away with oil and other subsidies at one shot?”
Such a scenario will not be good for economic growth. Also, if the government continues in its current way, there is always the risk of a downgrade from one of the international rating agencies. And that will mean a run on the rupee.
6) Chidambaram in a recent speech said that “India is not an island. We are part of the global economy, and what happens in the globe will affect India.The global economy…is expected to achieve a growth rate of only 2.9 per cent in CY 2013. Advanced economies are expected to grow at only 1.2 per cent this calendar year. The eurozone area, which is one of our major trading partners, is expected to shrink 0.4 per cent this year. Therefore, what happens in and what we are able to do, must be seen in the context of the global economy.”
This is classic politician speak. When India was growing then it was because of all the things that the government was doing right. And now that we are not growing it is because of external factors. But let me not get into that. The point here is that if the global economy does start to recover, how well is the Indian economy placed to benefit from it through increased exports? Economist Rajeev Mallik of CLSA has an answer. “Recovery in global demand and trade flows will be positive for India, but it’ll be more positive for other Asian economies. This is because even though India’s ratio of exports in GDP has increased in recent decades, it remains the lowest among the Asian economies. Consequently, the incremental increase in growth in some other Asian economies will outstrip that for India,” explains Mallik in a column in the Business Standard.
7) The current account deficit has been brought under control by clamping down on gold imports. Another major reason for its fall is the slowdown in growth leading to lower imports. Imports declined 4.8% to $114.5 billion during the July to September 2013 period. As an editorial in The Financial Express points out “But, more than anything else, it is the continued collapse in GDP that has ensured CAD remains under control, implying that the situation can once again get out of control as GDP picks up—with no policy on opening up of the coal sector, for instance, coal imports will pick up once again as GDP rises.”
8) So in this environment few are investing. As The Financial Express editorial points out “a recent study by Kotak Institutional Equities shows how sanctions for fresh projects have been tapering off from R1,13,900 crore in Q1FY11 to R74,900 crore in Q1FY12, R41,300 crore in Q1FY13 and to just R22,000 crore in Q1FY14.”
What all this tells us is that there are serious economic issues that need to sorted out if India has to get back anywhere near 8% GDP growth rate. In this scenario anyone trying to tell us that India will soon go back to a high economic growth rate is like Salman Khan telling the world that he is a virgin who is saving himself for his wife. We all know that is not something to be taken seriously.
The article originally appeared on www.firstpost.com on December 4, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek)
A fall in current account deficit need not mean a fall in gold demand
Vivek Kaul
The current account deficit for the three month period of July to September 2013 has come in at $5.2 billion or 1.2% of the gross domestic product (GDP). This number is so good that it prompted the Reserve Bank of India(RBI) to release the numbers a month earlier than scheduled.
In technical terms, the current account deficit is the difference between total value of imports and the sum of the total value of its exports and net foreign remittances. Or to put it in simpler terms, it is the difference between outflow (through imports) and inflow (through imports and foreign remittances) of foreign exchange .
The current account deficit for the April to June 2013 period had stood at 4.9% of GDP, whereas for the July to September 2012 period it had stood at 5% of GDP. Also, this is the lowest current account deficit that the country has seen since the period of three months ending June 2009.
A high current account deficit is not deemed to be good for a country primarily because it means that the outflow of foreign exchange is much greater than its inflow. So in India’s case it means that the outflow of dollars is much greater than the inflow of dollars. This means a greater demand for dollars than supply. Hence, those who need dollars sell rupees to buy them. This leads to a situation where the value of the rupee falls against the dollar. This is precisely what happened between May and August 2013, when the rupee went from around 54 to a dollar to almost 69 to a dollar.
When this happened, Indian importers had to pay a significantly higher amount in rupee terms, for what they were importing. India produces very little oil and imports nearly 80% of its requirement. Hence, the oil marketing companies had to pay a higher amount for the oil that was being imported. But these companies are not allowed to sell cooking gas, diesel and kerosene at a price which is greater than the cost price. The government subsidies them for this under-recovery. This adds to the expenditure of the government and hence, leads to the fiscal deficit going up, which has its own set of problems. Fiscal deficit is the difference between what a government spends and what it earns.
There are two ways of controlling the current account deficit. One is to ensure that the country earns more foreign exchange than it was doing in the past. The other is to clamp down on the demand for foreign exchange. For a government it is always easier to clamp down.
Hence, the government went about increasing the import duty on gold. The duty is now at 10% in comparison to 2% earlier. Another rule, which required a gold importer to re-export 20% of all the gold that he imported, was also introduced by the government.
These two significant changes ensured that gold imports came down dramatically. Gold imports during the June to September 2013 period stood at $3.9 billion, down nearly 65% from the same period in 2012, when it had stood at $11.1 billion. In the period of April to June 2013, the gold imports had stood at $16.4 billion.
This dramatic fall in gold imports is a major reason behind this fall in current account deficit. In absolute terms the fall in gold imports has been $12.5 billion($16.4 billion – $3.9 billion) between the three month period ending in June 2013 and the three month period ending in September 2013.
The current account deficit for the April to June 2013 period was $21.8 billion. For the period July to September 2013 period, it has come in at $5.2 billion. The absolute difference is $16.6 billion. Of this nearly $12.5 billion or nearly three fourths of the fall has been because of lower gold imports.
A fall in the value of the rupee has also helped boost exports. Merchandise exports went up by 12% to $81.2 billion during the period in comparison to the same period last year. This was primarily on account of growth in export of textiles, leather and chemical products.
The major fall in current account deficit has been because of a massive fall in gold imports. And this has meant that the demand for dollars to buy gold has gone down dramatically as well. This has been one of the major reasons for the rupee increasing in value from around 69 to a dollar in end August to around 62.4 to a dollar currently.
The current account deficit was around $87 billion last year. With the clamp down on gold imports, the finance minister P Chidambaram has said in the recent past that he expects the current account deficit to be less than $56 billion in the financial year ending March 2014.
Does a fall in gold imports also mean a fall in demand for gold? India produces almost no gold of its own. But things are not as simple as that.
It is worth remembering here that gold imports were banned in India until 1990. At that point of time, gold smuggling was a fairly lucrative operation. As a recent article in The Economist points out “India consumed only 65 tonnes in 1982. Until 1990 imports were all but banned. Bullion had to be smuggled in and its price within India was about 50% higher than outside it.”
And that is precisely what has been happening over the course of this year. A recent report in The Hindustan Times points out “The Mumbai airport customs has seized around 73kg gold worth Rs.19.71 crore between April and October this year, more than double the quantity (31kg gold worth Rs 9.8 crore) it had seized during the same period last year. The spurt in smuggling activities is a result of the widening difference in the yellow metal’s price between the domestic market and Dubai. The price gap has gone up to Rs 5 lakh a kg in the past few months from being Rs 2.5 lakh a kg in June, and only Rs 1 lakh before that.”
Gold smugglers are also using neighbouring countries to get gold into India. A November 17, 2013, report in The Times of India points out “In the past few months, over 50kg of gold worth more than Rs 15 crore has been smuggled across the Indo-Bangladesh border alone. Sources in Directorate of Revenue Intelligence (DRI) said Nepal too has come up on the radar with some recent seizures on the border. Sources said this was only a fraction of what was being smuggled through these borders.”
A similar point is made by Dan Smith and Anubhuti Sahay of Standard Chartered in their September 12, 2013, report titled “Gold – India’s government gets tough.” As they write “There is much anecdotal evidence suggesting that increased amounts of gold are entering India through unofficial channels, which makes the official figures an understatement. Pakistan temporarily suspended a duty-free gold import arrangement in August, when gold imports doubled. According to media reports, much of this was crossing the border into India.”
A report in the DNA quotes Somasundaram P R, managing director (India), of the World Gold Council as saying “ demand in neighbouring countries such as Thailand has increased and some of this may be because of India demand.”
The World Gold Council in a recent report also makes the following point. “Gold entering the country unofficially through India’s porous borders helped to meet pent-up demand…It is likely that unofficial gold will continue to find its way into the country to satisfy demand. Reports that a good market for ten tola bars is re-emerging,due to the relative ease with which they can be concealed, reinforce this view.”
The point is that a clamp down on gold imports leading to a major fall in gold imports doesn’t necessarily mean a fall in gold demand. These are two difference things. An increase in gold smuggling has huge social implications. It is worth remembering that some of the biggest mafia dons of Mumbai in the seventies and the eighties started as gold smugglers before getting into other illegal activities.
That apart, there are financial implications to this as well. A major reason why Indians buy gold is to protect themselves from inflation. Over the last few years the consumer price inflation(CPI) has been higher than the interest being paid on fixed deposits and other fixed income instruments.
In this environment, gold has looked like a good bet given that it has given positive returns in each of the years between 2002 and 2011. As Chetan Ahya and Upasana Chachra of Morgan Stanley point out in a December 2, 2013 note titled India Economics: 2014 Outlook: A Year of Macro Adjustment “Persistently high CPI inflation has kept real interest rates negative since the credit crisis, encouraging households to reduce financial savings and increase allocation to gold and real estate.”
Hence, buying gold was a perfectly rational thing to do at an individual level. The Indian financial system is rigged towards helping the government borrow money at low interest rates (You can read the complete argument here). Given this, it is not surprising that Indians are fascinated by gold at an individual level. Though at an aggregate level it has led to major problems. One of the problems has been the weak deposit growth of banks. As Ahya and Chachra point out “This is reflected in deposit growth, which has stayed weak relative to credit growth now for the last three and a half years, elevating the loan-deposit ratio near full capacity levels (76.5% currently).”
This basically means that deposits have been growing at a much slower pace than loans being given by banks, due to the fact that people have been diverting their savings into gold and real estate, in the hope of beating inflation. And this in turn has led to higher interest rates.
With the government clamping down on gold imports, the hope was that it would lead to people saving more money in bank and other fixed income deposits. But is that really happening? The evidence available suggests it isn’t because the basic problem in India is high inflation and that hasn’t been addressed.
The article originally appeared on www.firstpost.com on December 4, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek)
With GDP growth at 4.8%, Chidambaram is finally speaking the truth
Vivek Kaul
Abraham Lincoln once said “You can fool some of the people all of the taaime, and all of the people some of the time, but you can’t fool all of the people all of the time.” The finance minister P Chidambaram finally admitted the truth yesterday. “Consumer inflation in India is entrenched due to high food and fuel prices and monetary policy has little impact in curbing these prices…There are no quick fixes for inflation, will take some time to fix it,” he said.
“Demand is being stoked by the fact that we have high fiscal deficit and that fiscal deficit was not contained for a fairly long period, I think over a period of two years,” Chidambaram added.
What Chidambaram meant was that the government over the last few years has spent much more than it has earned, and has been running huge fiscal deficits. This money has not gone into creating physical infrastructure but largely been given away in the form of various subsidies and so called social programmes of the government.
This spending led to an increase in private consumption, which led to inflation, with too much money chasing the same amount of goods and services. And now the inflation is so well entrenched that it refuses to go. In October 2013, the consumer price inflation stood at 10.09% in comparison to 9.84% in September, 201.
One of the things that inflation does is it kills economic growth. And this is very much visible in the second quarter gross domestic product (GDP) growth number that was announced yesterday. For the period between July and September 2013, GDP growth, which is a measure of economic growth, stood at 4.8%, in comparison to the same period last year.
It was slightly better than the 4.4% GDP growth seen during the first quarter of the year i.e. the period between April and June, 2013. This was the fourth consecutive quarter in which the GDP growth has been below 5%. During the same period last year, the GDP growth had been at 5.2%.
The overall GDP growth was helped by a very good growth in agriculture (actually agriculture, forestry and fishing), which came in at 4.6%. This was much better in comparison to 2.7% growth between April and June 2013 and 1.7% growth between July and September 2012. The primary reason for a robust growth in agriculture has been the good rainfall that the country received during this monsoon season.
As Ashok Gulati, Shweta Saini and Surbhi Jain write in a discussion paper titled Monsoon 2013: Estimating the Impact on Agriculture released in October 2013 “Of the 4 broad regions of India: the north‐east, the northwest, the central, and the south peninsular India, as categorized by Indian Meteorological Department (IMD), with the exception of north‐east India, all the other three regions received normal or above normal showers.”
This has led to a robust growth in agriculture. As Gulati, Saini and Jain point out “All this is a very good news for a country’s agriculture, where 53% of the gross cropped area is still rain‐fed, and monsoons alone account for more than 76% of the total annual rains. No wonder then that years of good rains are associated with robust agriculture GDP growth.”
A robust growth in agriculture doesn’t help beyond a point because it forms only around 10.8% of the overall GDP (at factor cost at 2004-2005 prices). Manufacturing which is around 14.8% of the total GDP(at factor cost), grew by just 1%. Even though its better than 0.1% growth seen between June and September 2012, 1% growth clearly isn’t enough.
Trade, hotels, transport and communication, which form nearly 28.1% of GDP at factor cost, grew by 4%. But the growth had been at 6.8% between July and September, last year. Community, social and personal services which form around 14.3% of GDP (at factor cost) grew by 4.2% compared to last year. This was half the growth of 8.4% seen during the period between July and September 2013.
All these factors contributed to a sub 5% GDP growth. High inflation remains a major reason for the same. Lets try and understand how. GDP can be measured in different ways. One way is to measure it from the point of view of various industries and agriculture i.e. factors of production. This is referred to as GDP at factor cost, and this is the measure I used earlier in the piece. So we saw that the GDP growth when measured from this point of view was at 4.8%.
Industries depend on demand from people. When people spend money, it translates into demand for industries, and this in turn leads to GDP growth. But there are situations when people can’t spend as much money as they had been doing in the past. One of the reasons is high inflation where prices of goods go up, leading to people cutting down on what they think is unnecessary expenditure.
This is reflected in the private final consumption expenditure(PFCE) number which is a part of the GDP number measured from the expenditure point of view. The PFCE for the period between July and September 2013 grew by just 2.2%(at 2004-2005 prices) from last year. Between July and September 2012 it had grown by 3.5%. The PFCE currently forms around 59.8% of the GDP when measured from the expenditure side.
Hence, if it grows by just 2.2%, it slows down the overall GDP growth. This is because a slowdown in consumer demand means less business for industries and this impacts GDP growth. This is how inflation kills economic growth.
So the question is where will GDP growth go from here? Montek Singh Ahluwalia, the deputy chairman of the Planning Commission, is as usual optimistic and he expects the GDP growth rate “in the second half of the current year to be better than the first half.” But that’s what Ahluwalia has been doing for the last few years, forever trying to tell us that the next quarter, the next six months and the next few years are going to be better. He has become a seller of the great Indian hope trick.
Chidambaram was a little more realistic and he felt that the GDP growth will be close to 6% in the next financial year (i.e. between April 1, 2014 and March 31, 2015)and 8% by 2016-2017(i.e. between April 1, 2016 and March 31, 2017). “India will get back to the high growth path,” he said.
But inflation remains the main bottleneck if India has to go back to what Chidambaram calls the high growth path. The only way for controlling inflation is to cut down on government expenditure and the fiscal deficit. And that is easier said than done. In fact, as per data released by the Controller General of Accounts yesterday, the government has already reached 84.4% of the annual fiscal deficit target during the first seven months of the year i.e. the period between April and October 2013.
To conclude, India needs to grow at a much faster rate if there has to be any hope of getting many more people out of poverty. Ruchir Sharma, author of Breakout Nations and the head of Emerging Market Equities and Global Macro at Morgan Stanley Investment Management, explained the situation best in something that he said at a literary festival in Mumbai late last year. As Sharma put it “People tell me that if India grows at 5% what is the big deal because that is still faster than the US or many of the European countries. And my response to it is that is the wrong way of looking at it because if India grows at 5% per year, India’s per capita income is really low and it is far too low to satisfy India’s potential and for India to get people out of poverty. And which is why India’s case of a 5% growth rate is a big disappointment.”
And now we are not growing at even below 5%.
The article originally appeared on www.firstpost.com on November 30, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek)
Consumption story: Mr FM, it’s about low inflation, not low interest rates
Vivek Kaul
The finance minister P Chidambaram keeps asking public sector banks to cut interest rates. The assumption here is that because interest rates are high people are not buying things. Once banks start cutting interest rates and people start buying things, businesses will grow and the economy will be back on track again. But that is not the correct way to look at the current economic scenario.
In fact, in a piece that I wrote yesterday I had quoted a paragraph written by investment newsletter writer and hedge fund manager John Mauldin. As Mauldin wrote “The belief is that it is demand that is the issue and that lower rates will stimulate increased demand (consumption), presumably by making loans cheaper for businesses and consumers. More leverage is needed! But current policy apparently fails to grasp that the problem is not the lack of consumption: it is the lack of income.”
Mauldin wrote this with respect to the American economy, but it is equally valid for the Indian economy as well. When politicians ask banks to cut interest rates they assume that people are not buying things because interest rates are high, and hence they will have to pay higher EMIs.
This is partially but not totally true.
This belief does not take into account what Mauldin calls “lack of income”. In India, inflation has been fairly high over the last few years, particularly food inflation. What this has meant is that people have had to spend a higher part of their income on meeting their regular expenditure. This has meant lower savings.
aIn fact, a recent survey carried out by Assocham, found that household savings rates have dropped by a huge 40% in the last three years. “Poor households are unable to maintain the consumption levels at current prices while middle income families find their purchasing power erode fast, thus having far less surplus money,” Assocham Secretary General D S Rawat said on the results of the survey.
In fact, government own data, which is a bit dated, points out towards this trend. The household savings declined from over 12% of GDP in 2007 to under 9% in 2011. It would be safe to say that the savings rate would have fallen further since then.
Getting back to the ASSOCHAM survey, 82% of the respondents felt that their salary increments last year were not in sync with the cost of living, which has gone by nearly 40-45%. Given this, these respondents felt that they had to cut down on their standard of living by at least 25%.
All in all, what this means is that the increase in income over the last few years hasn’t been able to keep pace with inflation. What has also not helped is the fact that interest rates on offer on various kinds of deposits have barely managed to keep pace with the rate of inflation. As the Economic Survey of the government for the year 2012-2013, released in February pointed out “High inflation reduces the return on other financial instruments.”
In this scenario, where savings have gone down and income hasn’t gone up enough to keep pace with high inflation, it is difficult to expect people to buy things. If car sales haven’t grown for while, it is simply because people do not have enough money going around and do not feel confident about the future. It also explains why the consumer durables sector is not doing well.
On the flip side the two wheeler sales have remained robust. This was simply because rural wage growth was robust over the last few years. It was 9.3% in 2012 and 13.4% in 2011, after adjusting for inflation. In August 2013, the rural wage growth moderated to -0.1%. It will be interesting to see where two wheeler sales go from here, given that a large number of two wheelers are bought in rural areas.
Given these reasons, for the consumption story to start all over again, it is important that inflation is brought under control. For that to happen, the high government spending which has been the major reason for inflation needs to be reined in. As economist Arvind Subramanian wrote in a recent column in the Business Standard “A pre-condition, of course, is that fiscal deficits (actual not accounting, current not future), and especially spending, need to be brought under greater control.”
Only once that happens, will the consumption story start looking up again. Till then, we will have to unfortunately hear,Chidambaram ask banks to cut interest rates, over and over again.
The article originally appeared on www.firstpost.com on November 21, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek)