A decade marked by economic turbulence: Business Line 25th December 2019

etween scams, policy paralysis and the ill-effects of demonetisation, GST and NPAs, India lost the tag of ‘fastest growing economy’

The end of 2019 also marks the culmination of a particularly turbulent decade. This is contrary to the earlier decade, when we took credit in being decoupled from the experiences of developed countries following the Lehman crisis. It is time to go back and assess if there are lessons to be learnt.

The first shock evolved over a period of time, characterised by the irregularities in allocation of natural resources — which came to be known as ‘scams’ — in coal, telecom and iron ore. This led to a policy paralysis, which meant several projects got stalled as coal or iron ore were not available.

The country is still to recover from this blow, as gross fixed capital formation slipped from a high of 34-35 per cent to a low of 26-27 per cent and is now in the range of 28-29 per cent. As these projects were in heavy industry and infrastructure, the struggle continues.

Economic tinkering

Second, linked to these capacities that were created and then abandoned, was the financial system. Projects failed because of these institutional failures, but the government and the RBI in their wisdom told banks that these loans were not really the typical NPAs and should be called ‘restructured assets’, with the corporate debt restructuring cell being set up.

As bankers constituted this cell, there was a perverse incentive to shift assets to this category, and so started the evergreening. This camouflage came apart when the RBI ordered an Asset Quality Review which led to banks gradually revealing their true NPAs, which crossed 20 per cent at times and averaged 9-10 per cent as against 3-4 per cent earlier.

Third, just while the economy in 2016 looked like springing back to life post two successive sub-normal monsoon conditions, the government went in for demonetisation, which was probably an egregious blunder as employment, output, enterprise, the financial system, etc, were affected for three successive years with consumer demand slowing down, leading to this impasse.

Fourth, the government took a bold decision in 2017 by bringing in the GST — the biggest tax reform in the country. The timing was critical and political expediency was compelling, given that the general elections were in 2019.

Two problems had surfaced from this. First, the SMEs were at the receiving end of a double whammy and, second, the collections expected from the GST missed the target as the economy slowed down. For such a tax system to work with lower rationalised rates, growth is essential.

For two years, there have been only slippages, which debunk the overoptimistic visions painted by economists who said the GST may lead to higher collections, GDP growth and lower inflation.

As the banking system faced turmoil and went on the back-foot post demonetisation, NBFCs boomed by providing finance for real estate, SMEs and infrastructure. All went well until IL&FS collapsed in 2018, which had a domino effect.

This led to panic, as mutual funds moved out of the CP market and banks were reluctant to lend to NBFCs. The government and the RBI have stepped in to save the situation; but, even today banks are unsure of lending to both corporates as well as NBFCs as the mess is deep-rooted. It has become a kind of Lehman moment for us.

Managing the numbers

Fifth, this has been the decade of change in base years by the CSO, and data have become controversial and politicised. Even though governments have limited control over the GDP and other growth numbers, they have gotten personalised, which has meant that various series of data have given different results.

With the last CEA ironically coming up with another calculation, a good-intentioned methodology followed by the CSO has now gotten dented in terms of credibility — the demonetisation year, which saw all economic activity coming to a standstill for five months, registered the highest growth rate of 8.2 per cent.

Sixth, the fiscal management process has generated another controversy. While hours of debates conjecture whether the 3 per cent mark or whatever is targeted will be achieved, the quality of these numbers leaves a lot to be desired. First, there are rollovers where payments are made in the next year. Second, capex is cut to meet targets. Third, to make disinvestment successful, one public sector unit buys into another, which should not be the case. Fiscal management to make the exercise more meaningful will be the next challenge in the coming years.

Transfer of reserves

Seventh, the RBI had been in the centre of the storm with the controversy of transfer of reserves to the government. The picture became quite ugly because the issue was raised when the Budget exercise floundered. While the rules of engagement permit such a transfer, the fact that it was never done before was compounded by the apparent reluctance of the then RBI Governor to accede to the request. The resignation of the Governor added to the discomfort.

Eighth, in a historic move, monetary policy was transferred to an MPC (Monetary Policy Committee) with inflation targeting being the norm. This was after migrating from two to eight to six policies a year. Having independent members formulate policy added transparency. But towards the last couple of years, the efficacy of policy can be questioned as the effectiveness of interest rates has been tested. There may be need to revisit the framework.

Ninth, as the decade ends, the slowdown in growth has left everyone confused. The tag of being the fastest growing economy has gotten diluted, with little impact on growth numbers despite several policies put in place. Will we have to wait for another 5-10 years to recover, like the US or the Eurpoean region?

Last, the country has made tremendous progress in terms of ‘ease of doing business’ and the competitiveness index, which are tracked by the World Bank and the WEF. The FDI and FPI reveal that India is a preferred destination. Yet, the conundrum remains as to why the global rating agencies still rate us as being just about investment-grade. This should on our agenda in the 2020s, as it affects brand “India”.