With the global economy weakening, India's GDP growth could slow further to 8.5 per cent in 2008. However, with the right reforms, the nation could achieve a potential economic growth rate of 10 per cent, predicts a new Lehman Brothers report on the global economic outlook 2008.
The bigger macro story, according to the report, is India's rising potential growth rate. India is exhibiting many of the characteristics that Japan, Korea and China did during their economic take-offs: real GDP per capita is accelerating, investment and saving rates are surging, and the economy is rapidly opening up. Still ahead are the powerful trends of demography and urbanisation: half the population is under 25 years and 70 per cent still live in the countryside.
India needs to strengthen its infrastructure, reduce its stifling bureaucracy, deregulate labour markets and develop its financial system. "But without reforms, these trends can possibly reduce potential growth to 5-6 per cent," it warns.
Pushing through reforms would remain a political challenge in the face of headwinds from coalition politics, warns the report, still hoping that there should be a new window after the next election, which must be held no later than May 2009. The development of special economic zones should also serve as a catalyst for reforms and the increasing autonomy of India's states is spurring reform as more reform-minded states outperform economically.
It is not that policymakers do not face challenges. The budget deficit looks set to widen due to the political cycle, high oil prices (owing to generous subsidies) and a surge in civil service salaries. India cannot afford this to be the start of a major fiscal slippage, the report said.