Summary Report - ORF Conference on India's Economic Environment
The rise of India as a significant economic powerhouse on the world stage is unquestionable. The drivers of this rise have been diverse- ranging from a burgeoning middle class with increased buying powers, to a growing services sector with impressive innovation and vision. More recently niche successes in manufacturing have added to the momentum.
There are few who doubt that India will continue to grow at rates that would be envied by economies in the West for the near foreseeable future. However, it is also clear that India stands at a crossroads, where policymakers will have to separate theory from practice. It is certainly comfortable for us to assume for instance, that the inflationary trends prevalent in the economy can be curbed by monetary tightening alone or that the discrepancies and inconsistencies in our macro economic data do not have direct bearing upon the effectiveness of policy.
These are the sort of varied concerns that were discussed and debated in the inaugural conference of the India Insight Series. This report highlights the central themes that were touched upon by the eminent speakers.
Dr. Parthasarti Shome - Growth and Inflation Tradeoffs
The nature of the relationship between inflation and growth is hard to establish. Growth is determined by real factors of production such as technical progress and demographics as opposed to inflation. There is of course some link between inflation and growth, but the two cannot be closely related. Through presenting evidence of growth rates and inflation rates from 1950 to 2011, Dr. Shome showed that we cannot find consistent long term relationship between the two variables in the Indian context. In the 1970s, the rate of WPI inflation was approximately equal to what it was in the first half of the 1990s (10.28% and 10.18% respectively) but the growth rates were different.
He explained that it is really inflation volatility that can impact growth. He showed data indicating that India's inflation volatility has not been very severe - and therefore the constant inflationary trends have not impacted growth as the classical relationship would suggest. That is inflation should not be over-emphasized; other factors such as labour, infrastructure and political situations will always have more direct consequences. He talked about the role of expectations - and explained that anticipated inflation is usually met with an increase in demand. The increase in demand is usually driven by the intention of preparing for and overcoming the augmentation of prices. Such increases raise the overall output level of the economy, usually above the capacity of the market, causing a rise in the cost of production. In this way, the actual rate of inflation is accelerated by forward looking speculations.
Therefore, managing expectations becomes essential. This can be done through monetary policy; the policies expected for tomorrow become as important as the ones expected for today. By anchoring tomorrow's expectations the monetary authority can also control the inflation of today. He drew upon examples from the last year to show how a loose monetary policy can raise the inflation rate. Between 2009-10 and 2010-11 WPI inflation rate has gone up by 576 basis points. This continuous trend implies that the RBI will eventually have to pay a very high price for the excess in output later on. The RBI needs to adopt a more aggressive approach and to keep actual output within the realm of the economy's productive capacity.
Finally, he presented a set of policy recommendations. The RBI should raise short term interest rates rapidly to protect anti-inflationary credibility. Fiscal consolidation should go hand in hand with strict monetary policy. A loose fiscal policy would increase the debt burden, and if this burden rises, the fiscal deficit would rise, making it impossible to avoid inflation. In the long run there should be increased investment in infrastructure and in human capital. Infrastructure is not a long term issue - it has to become a short term one; otherwise the economy will become unsustainable. The private sector has to be incentivised to provide infrastructure. In agriculture there is an acute need for innovation, and monetary policy needs to be anchored in order to ensure that commodities do not add to inflation.
Dr. Atul Sarma - Infrastructure Development in the 11th Five Year Plan
While Dr. Shome underlined the necessity of providing incentives to private sector investments, Dr. Atul Sarma expressed a relative confidence in the environment that the government has set for investment in infrastructure. He highlighted the fact that infrastructure is the most crucial element for incremental growth but that it is still lacking in investment. And because safeguarding growth will not only require infrastructure, but the best quality of it, domestic savings alone will not suffice. The contributions of the private sector need to be supplemented by FDI.
He talked about the Eleventh Five Year Plan to describe the dynamic of public and private cooperation. The share of infrastructure in GDP was estimated at 7.5%. Both the Tenth and the Eleventh Five Year plans gave a lot of priority to electricity, roads, buildings, and transportation. 25% of total investment was made by the private sector, but during the first 2 years, it was 34.3% in 2007-08, and 33% in 2008-09. More than one-third of contribution to infrastructure was made by the private sector. This was facilitated by public-private partnership, since the government was closely monitoring the environment for the private sector.
While the achievements of the Eleventh plan allow for optimism, he mentioned that the government still has a lot to compensate for. A little reform on the part of the public sector will allow for a wider mobilization of additional resources. He said that today - there is still an inadequate amount of skilled labour, and a lack in the maintenance of law and order. Targeting these two points will allow for the right development of institutions that are able to manage the resources generated into the infrastructure sector.
Shri N.K Singh Luncheon address
Shri N.K Singh listed the aspirations that are set for India for the coming years: double-digit growth, poverty alleviation through education and health, and job creation. At the centre of this rather difficult agenda, governance should be allocated the utmost significance - attending to questions of accountability, transparency, and the possibilities of a more participative system.
He highlighted that the next important issue in the short run is inflation versus growth. The fact that macroeconomic policies have not yet made a significant dent on inflation has brought to surface the idea that the government has failed to control inflation. To say that India is opting for lower growth will not be good enough. He also said that fiscal correction needs to be much deeper, with a special focus on improving expenditure outcome.
Mr. Singh also drew attention to the environment as he pointed out that India has significantly less carbon emissions per capita than the global average. . This leaves India at an advantage, but with the different forms of renewable energies that are yet to be reached, the country is left with another kind of choice; how to keep carbon emissions at a low without compromising the economy's growth.
About education he shared that the perception of what constitutes a public good has changed. There has been a lot of focus on the right of education; there is already a move to make secondary education a priority right. But for the right of education to be implemented there will be a need for 6 to 7 million teachers to be trained, but only 2 lakh teachers have been recruited.
In conclusion he mentioned that India does have the potential to ramp up growth again, but this will be dependent on structural changes. This does mean that the government will have to take on enormous challenges in terms of legislation. At the top of the agenda right now is the Lokpal bill, but priority is also given to reforms concerning the acquisition of land and labour laws. There are also pending laws on banking and pension reforms. At the end of the day it is the governments' job to cut a deal that will find parliamentary acceptance. He finds that it is the inability of government to function in a constructive way that has slowed down growth in the past three to four years. For this reason there should be a renewed focus on legislation.
Mr. Atul Kumar Rai - Banking Liberalization in India
Talking about the process of liberalization in India, Mr. Rai agreed to the necessities of state reforms. India has been a model where political classes have tried to orient the state in favour of their own causes rather than implement a discourse of freedom and liberalization. In that sense freedom is yet to take shape. Every case of liberalization has been covered by the state's intentions. It has been a paradoxical process. There is no natural or autonomous indigenous trend. This is not to say that liberalization is the only inevitable model for India. He suggested that at this point in time there could be a plurality of models. The so called free-market model should not necessarily be the only model; the western model itself remains highly questionable. But concern should be directed at alleviating the pressing concerns on the private sector.
The issue of liberalization is most critical in the banking sector. There is some degree of consolidation in policy making about regulation but somehow financial decision-making has been concentrated in very few hands. Although this might be outside the scope of the state, it still retains a degree of oppression since they are not directed by domicile jurisdiction. Consequently, he finds that we have reached a stage where the oppression is not only generated by the state, but by the state and the private sector together.
He mentioned that today, 75% of the banking sector is owned by the public sector. Therefore reforms are clearly the order of the day. Yet according to him, there is not much hope for this since there is not enough mutual consultation. The RBI should be imposing new on banking reforms, and therefore banks should own mutual funds, pension funds, insurance, and other businesses. In conclusion he suggested that if regulations on savings rates are implemented, the biggest losers would be the largest public sector banks. This is why it is very unlikely that these reforms will take place any time soon.
Dr. M. Govinda Rao - Economic Forecasting in India
According to Dr. Rao all economists do some forecasting one way or another. While economic forecasting is a very hazardous profession, it is still a necessity for policy making. It deals with human behaviour which is very hard to predict. Economists tend to treat their field like a science and therefore aim at making very precise forecasts. But this credibility of economists was lost at the time of the great depression.
Dr. Rao listed three main problems that he thought are hindering the task of economic forecasting. The first is the poor quality of the data that is collected, especially when it comes to estimating the components of GDP. The second is the recurrent debate on what type of model should be used. And finally, the third problem pertains to the difficulty of getting reliable numbers about the variation of prices.
Regarding the accuracy of the GDP estimate, Mr. Rao felt that the number is under-estimated. This is especially because the informal sector is not accounted for, and because the data on per capita income is still not reliable. He did however mention that there is opportunity for development since there has been a substantial improvement in the quality of data, and because the private sector has also come forward with a new number of data sets that are expected to be more accurate. In addition, the estimates for agricultural output are now being based on more accurate numbers, and this in turn contributes to the accuracy of the GDP estimate as a whole.
Dr. Ashok Chawla - India's Economic Environment
Dr. Chawla was sceptical about whether India's 8% growth rate can be taken for granted. With all the difficulties impeding this growth, he suggested a number of key challenges that are of primary importance. The first challenge is that of fiscal health. Prior to the crisis the fiscal deficit was around 5% of GDP (this was driven by increased revenue). This year's number is 4.6% of GDP. With every forward movement the initial reduction of the deficit will become more difficult. Expenditure that doesn't really go to build capital assets needs to be reduced. The other challenges include inflation, the lack of clarity on policy interventions, and the need for governance reforms.
Apart from these factors, Mr. Chawla directed his attention towards the lack of transparency in handling resources, where a huge level of administrative discretion is permitted. In his presentation he narrows down on coal, oil and natural gas. Coal is a very important sector for the economy, and it is something with which India is well endowed. But the problem lies in the fact that the coal is not efficiently mined and that there is no adequate mapping of the country in terms of resource distribution. While the cost of importing is increasing, there has been an attempt to pass a bill to allow private companies to mine. But it has been 9 to 10 years since this bill was suggested and it remains unapproved. The bill also allows different kinds of mining activities to take place, increasing the efficiency of private sector mining.
Referring to Crude oil, he suggested that the government should allow for more leverage in licensing. But before this can be done, the data egistry needs significant development so that people and companies can be aware of what is available and where it is available. He mentioned that natural gas is not abundant in the country, and price is determined by the foreign market and that there should be veritable "open gas market". After a period of transition the government should pass on the gas industry to the private sector.
After expanding on each of these resources alone, he recognized that there is a clear acceptance of the subtle interplay between resource management and growth. One cannot be sacrificed for the other. While the political will is now mainly focused on governance, this is, according to him - the suitable time for scrutinizing such issues.
Mr. V. Sivasubramanian - Goods and Services Tax
Mr. Subramanian drew upon his experience as an Indian Revenue Services officer, to talk about the merits and challenges of the soon to be implemented Goods and Services Tax (GST) by the Government of India. He mentioned that the intent of introducing a common GST across states had been there in the 2006-07 budget with April 2010 envisioned as the proposed timeline for implementation. However, we are unlikely to see the GST implemented before next year.
He said that the GST wood introduce a common market across the country, and would reduce compliance costs. The removal of many distortions - created by different tax policies in each state, would facilitate an increase in GDP. Currently, the broadly agreed upon features of the dual GST - one for states and one for the centre would apply to all stages of the value chain - primary, secondary and tertiary (including retail).He also elaborated on the IT strategy envisioned by the government - which would make the whole process of registration, management, filing and processing easy through a common GST portal.
While discussing the possible challenges he mentioned that tax policy is equal to tax administration - that is, tax policy is only effective if administered efficiently. The industry will steal have to deal with two tax administrations - the state and the centre. No comprehensive studies have been published about the relative gains and losses of each state as a result of GST implementation and there are significant differences in the level of preparedness in each state for such a reform in the tax system.
(Reporting by Diala Hajal and Vivan Sharan)
India's Economic Environment - Challenges and Aspirations
8 July 2011
(10:00 AM To 6:00 PM)
Venue: Taj Mansingh,