India’s inflation has breached the 8 per cent mark. It will almost certainly rise further before cooling off. The country’s annual growth rate has been 9 per cent. But, judging by the quarterly data on manufacturing, this will have a tendency to slow down. It seems likely that, after a long time, India will see its inflation and growth rates cross over.
There are two global ground swells that are affecting India — the oil price rise and food price inflation. Global food prices have been rising over the last three years. In the last 12 months, the average price of food has risen by 56 per cent, with wheat price rising by 92 per cent and rice by 96 per cent. Crude oil price rose last year by close to 40 per cent and this comes on the heels of two years of relentless rise. India has so far shielded its consumers from the fuel price rise. Kerosene price has not been raised for four years and cooking gas price was raised only marginally.
We have had earlier experience of being hit by international downturns. This happened in 1972-74. The Bretton Woods accord had come apart in 1971 and Opec nations pushed up the price of oil in 1973. China, which from 1969 to 1971 had grown at the unbelievable rate of 18 per cent per annum, collapsed to 3.8 per cent growth in 1972. India, at that time, had the highest inflation ever since Independence.
In 1997, when the Asian crisis occurred, India’s foreign exposure was not very high. Hence, India was not hit as badly as the many other Asian nations, but nevertheless our growth rate, which was 7 per cent during 1994-97, dropped to 4.5 per cent. Before someone jumps to conclude that opening up the economy is therefore a bad idea, let me emphasise that the boom that India has seen since 1993 is largely because of the open and market-oriented policies started in 1991. It may be true that by keeping the economy closed, we would have fewer crises. But to live in perpetual poverty to avoid occasional poverty (since the word ‘crisis’ applies to the latter) would be foolish strategy.
There is no easy policy response to the present crisis but there are critical differences between what should be done for food and for oil and what should be done in the short run and the long. For basic food, there is no alternative to shielding poor consumers from the market price rise. Some commentators have remarked how this is all a matter of supply and demand and, if governments do not interfere in the market, the price rise will bring a supply response, which will cause inflation to level out. That may be true. But markets pay no heed to grinding poverty. There will be starvation deaths before such a market process fully works itself out. The state needs to intervene even though, in the long run, the state should invest heavily in the agricultural sector to boost productivity and allow for the free flow of food between regions and also in and out of the nation, in response to market incentives.
On oil, continuing to shield consumers from the global price rise is not sustainable policy. It is causing unmanageable fiscal strain and, by keeping the demand for fuel artificially high, it is distorting markets, which will soon hurt the economy’s growth. Prices will have to be raised, even though that will hurt consumers in visible ways; hurt in itself is unavoidable given the global situation.
While some subsidy for end-use goods, such as basic food, education and health, is unavoidable in a nation of as much poverty as ours, subsidies in general are a bad idea. They distort prices and get subverted by corporations and the rich and seldom reach the needy. The way to help the poor is through direct income support. Relative price fluctuations are an unavoidable part of a globalised economy. This becomes worrying when some people are so poor that a small price rise becomes a life-and-death question for them. This crisis therefore should be a reminder that the levels of inequality and poverty that prevail in India today are untenable.
In a strange way, this crisis can be an opportunity. Faced with rising costs, corporations in industrialised nations are struggling to protect their profits. Since Indian labour is so much cheaper, if we can streamline our bureaucracy and increase organisational efficiency (there is a lot of scope for that), there can be a ground swell of demand for back-office work and labour-intensive goods and services from India.
India needs to work on a war-footing to cut bureaucracy, increase efficiency and attract international business. This will help stave off the immediate crisis, create employment and yield large, long-run benefits.
(Kaushik Basu is C. Marks Professor and Director, Center for Analytic Economics, Cornell University)