(1) Inflation has declined by over 6
percentage points since late 2013 and the current account deficit has declined from
a peak of 6.7 percent of GDP (2012-13) to an estimated 1.0 percent in the
coming fiscal year. This is an extremely important positive turn for the
economy. Moreover theforeign
portfolio flows have stabilized the rupee, exerting downward pressure on long-term
interest rates, reflected in yields on 10-year government securities, and
contributed to the surge in equity prices.
(2) After a nearly 12-quarter
phase of deceleration, real GDP has been growing at 7.2 percent on average since
2013-14, based on
the new growth estimates of the Central Statistics Office. Notwithstanding the
new estimates, the balance of evidence suggests that India is a recovering, but not
yet a surging, economy.
(3) From a cross-country perspective,
a Rational
Investor Ratings Index (RIRI) which combines indicators of macro-stability with
growth,
illustrates that India ranks amongst the most attractive investment
destinations.
(4) Several reforms have
been undertaken and more are on the anvil. The introduction of the GST and
expanding direct benefit transfers can be game-changers.
(5) In the short run, growth
will receive a boost from the cumulative impact of reforms, lower oil prices,
likely monetary policy easing facilitated by lower inflation and improved
inflationary expectations, and forecasts of a normal monsoon in 2015-16. Using the new estimate for
2014-15 as the base, GDP growth at constant market prices is expected to
accelerate to between 8.1 and 8.5 percent in 2015-16.
(6) Medium-term prospects will be
conditioned by the “Balance
sheet syndrome with Indian characteristics” (this phrase has been used because Indian companies are
suffering from a classic case of “debt overhang” after an investment bubble
funded by borrowings and the failure to commission such large investments) that has the potential to hold
back rapid increases in private sector investment. Private investment must be
the engine of long-run growth. However, there is a case for reviving
targeted public investment as an engine of growth in the short run to
complement and crowd-in private investment.
(7) India can balance the
short-term imperative of boosting public investment to revitalize growth
with the need to maintain fiscal discipline. Expenditure control, and expenditure
switching from consumption to investment,will be key.
(8) The outlook is favourable for
the current account deficit and its financing. A likely surfeit, rather than
scarcity, of foreign capital will complicate exchange rate management. Reconciling the benefits of
these flows with their impact on exports and the current account remains an
important challenge going forward.
(9) India faces an export
challenge, reflected
in the fact that theshare
of manufacturing and services exports in GDP has stagnated in the last five
years. The
external trading environment is less benign in two ways: partner country growth and
their absorption of Indian exports has slowed, and mega-regional trade
agreements being negotiated by the major trading nations in Asia and Europe
threaten to exclude India and place its exports at a competitive disadvantage.
(10) India is increasingly young,
middle-class, and aspirational but remains stubbornly male. Several indicators suggest that
gender inequality is persistent and high. In the short run, the renewed
emphasis on family planning targets, backed by misaligned incentives, is
undermining the health and reproductive autonomy of women.
Fiscal Framework
(1) India must adhere to the medium-term fiscal
deficit target of 3 percent of GDP. This will provide the fiscal space to insure against
future shocks and also to move closer to the fiscal performance of its emerging
market peers.
(2) India must also reverse
the trajectory of recent years and move toward the golden rule of eliminating
revenue deficits and ensuring that, over the cycle, borrowing is only for capital
formation.
(3) Expenditure control combined
with recovering growth and the introduction of the GST will ensure that medium
term targets are comfortably met.
(4) To ensure fiscal credibility
and consistency with medium-term goals, the process of expenditure control to reduce the
fiscal deficit should be initiated. At the same time, the quality of expenditure needs to
be shifted from consumption, by reducing subsidies, towards investment.
(5) Implementing the Fourteenth
Finance Commission’s recommendations will lead to states accounting for a large
share of total tax revenue. This has the important implication that,
going forward, India’s
public finances must be viewed at the consolidated level and not just at the
level of the central government. If recent trends in state-level fiscal management
continue, the fiscal position at the consolidated level will be on a
sustainable path.
Subsidies and the JAM Number
Trinity Solution (click HERE to
download the full chapter)
(1) The JAM Number Trinity – Jan Dhan Yojana, Aadhaar, Mobile – can enable the State to
transfer financial resources to the poor in a progressive manner without
leakages and with minimal distorting effects.
The Investment Challenge (click HERE to
download the full chapter)
(1) The stock of stalled projects stands
at about 7 percent of GDP, accounted for mostly by the private sector.
Manufacturing and infrastructure account for most of the stalled
projects. Changed market conditions and impeded regulatory clearances are
the prominent reasons for stalling in private and public sectors, respectively.
(2) This has weakened the
balance sheets of the corporate sector and public sector banks, which in turn
is constraining future private investment, completing a vicious circle.
(2) Despite high rates of stalling,
and weak balance sheets, the stock market valuations of companies with stalled
projects are quite robust,which is a puzzle.
The Banking Challenge (click HERE to
download the full chapter)
(1) The Indian banking balance
sheet is suffering from ‘double
financial repression’.
On the liabilities side, high inflation lowered real rates of return on
deposits. On the assets side, statutory liquidity ratio (SLR) and
priority sector lending (PSL) requirements have depressed returns to bank
assets.
(2) Private sector banks did not partake
in the biggest private-sector-fuelled growth episode in Indian history during
2005-2012. This is reflected in the near-constant share of private sector
banks in deposits and advances in those years.
(3) There is substantial variation
in the performance of the public sector banks, so that they should not be
perceived as a homogenous block while formulating policy.
Putting Public Investment on
Track – the Rail Route to Higher Growth (click HERE to
download the full chapter)
(1) The Indian Railways over the
years have been on a ‘route
to nowhere’
characterized by under-investment resulting in lack of capacity addition and
network congestion; neglect of commercial objectives; poor service provision;
and consequent financial weakness. These have cumulated to
below-potential contribution to economic growth.
(2) Very modest hikes in
passenger tariffs and cross-subsidisation of passenger services from freight
operations over the years have meant that Indian (PPP-adjusted) freight
rates remain among the highest in the world, with the railways ceding significant
share in freight traffic to roads (that is typically more costly and energy
inefficient).
(3) As a result, the competitiveness
of Indian industry has been undermined. Calculations reveal that China carries
about thrice as much coal freight per hour vis-à-vis India. Coal is transported
in India at more than twice the cost vis-à-vis China, and it takes 1.3 times
longer to do so.
(4) Econometric evidence suggests
that the railways public
investment multiplier (the effect of a Rs. 1 increase in public investment in
the railways on overall output) is around 5. In the long run, the railways must be
commercially viable and public support must be linked to railway reforms:
adoption of commercial practices; tariff rationalization; and technology
overhaul.
Skill India to Complement Make in
India (click HERE to
download the full chapter)
(1) What should we ‘Make in
India’? Sectors that are capable of facilitating structural
transformation in an emerging economy must: (a) have a high level of
productivity, (b) show convergence to the technological frontier over time, (c)
draw in resources from the rest of the economy to spread the fruits of growth,
(d) be aligned with the economy’s comparative advantage; and (e) be tradeable.
(2) Registered manufacturing,
construction and several service sectors — particularly business services —
perform well on the above mentioned characteristics. A key concern with
these sectors however is that they are rather skill-intensive and do not match
the skill profile of the Indian labour force.
(3) India could bolster
the Make in India’’initiative, which requires improving infrastructure and
reforming labor and land laws by complementing it with the ‘Skilling India’ initiative. This would enable a
larger section of the population to benefit from the structural transformation
that such sectors will facilitate.
A National Market for
Agricultural Commodities (click HERE to download
the full chapter)
(1) Markets in agricultural
products are regulated under the Agricultural Produce Market Committee (APMC)
Act enacted by State Governments. India has not one, not 29, but thousands of
agricultural markets. APMCs
levy multiple fees of substantial magnitude, that are non-transparent, and
hence a source of political power.
(2) The Model APMC Act, 2003
could benefit from drawing upon the ‘Karnataka Model’ that has successfully
introduced an integrated
single licensing system.
The key here is to remove the barriers that militate against the creation of
choice for farmers and against the creation of marketing infrastructure by the
private sector.
Climate Change (click HERE to
download the full chapter)
(1) India has cut subsidies and increased
taxes on fossil fuels (petrol and diesel along with a coal cess) turning a
carbon subsidy regime into one of carbon taxation. The implicit carbon tax is
US$ 140 for petrol and US$64 for diesel.
(2) In light of the recent falling
global coal prices and the large health costs associated with coal, there may
be room for further rationalization of coal pricing. The impact of any such
changes on affordable energy for the poor must be taken into account.
(3) On the whole, the move to substantial
carbon taxation combined with India’s ambitious solar power program suggests
that India can make substantial contributions to the forthcoming Paris
negotiations on climate change.
The Fourteenth Finance
Commission (click HERE to
download the full chapter)
(1) The FFC marks a watershed in the
history of Indian federalism. Unprecedented increases in tax devolution will
confer more fiscal autonomy on the states. This will be enhanced by the
FFC-induced imperative of having to reduce the scale of other central transfers
to the states. In other words, states will now have greater autonomy both on
the revenue and expenditure fronts. All states stand to gain from extra
resources although there will be some variation between the states.
(2) FFC transfers are highly
progressive; that is, states
with lower per capita Net State Domestic Product (NSDP) receive on average much
larger transfers per capita.
In contrast, plan transfers were much less progressive. The concern that
more transfers will undermine fiscal discipline is not warranted becausestates as a whole have been more
prudent than the centre in recent years.
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