As the UPA government prepares for the home-run dash of its second term, Prime Minister Manmohan Singh will be acutely aware of one widely used concept of economic theory: constrained optimisation. It represents arriving at a set of best solutions to a matrix of problems. In a real economy, however, the most favourable way out for one set of problems could harm prospects somewhere else. Ceteris paribus or other things remaining same, the most basic assumption in any economic modelling, may not apply in most real cases. For instance, if prices are rising steeply, slashing high interest rates may sometimes end up only fanning inflation. Striking a balance may involve a painfully long process of slow, gingerly taken steps.
The Prime Minister’s speech at the annual meeting of industry chamber Assocham needs to be seen in this context where he made it abundantly clear that reforms are at the core of the government’s plans to halt the economic slowdown, despite political constraints. Singh, rightly, identifies the kinks that need immediate straightening. In macro-economics, the twin deficits — current account and fiscal deficits are of paramount importance. The former broadly gives a measure of the difference of values between what India sells to and buys from the rest of the world. The latter gives an idea about the amount of money government needs to borrow to fund its current expenses. If no action is taken, we have to either earn about $80-$100 billion every year through stronger dollar inflows such as foreign direct investment (FDI) or meet the deficit by depleting our foreign exchange reserves. Clearly, both the options are not realistic and it is indeed a worrying sign for a slowing economy where fulfilling immediate dollar payment obligations may necessitate dipping into the pool of foreign exchange reserves.
Economic reforms in India, it is sometimes said, are akin to the hour hand of a clock that you rarely see moving. But, with the economy crashing to a decade-low and the rupee plunging to new depths, there has been flurry of reformist and action over the last few weeks.
Rebuilding investor confidence is the first step towards luring dollars and the Prime Minister’s speech had a fair sprinkling of what the government has been doing recently. The government would be well aware of the burden of reform expectations with the economy needing a firm hand on the fiscal situation as well as urgent steps to multiply investment activity. The government has demonstrated its intent to walk the talk on fiscal discipline by deregulating fuel prices. The PM’s candour in admitting the gravity of the current slowdown is commendable, especially in an election year when populism, rather than policy prudence, becomes the oft-quoted catchphrase. For an economy that is battling to claw out of its worst crisis in a decade, soothing investors’ frayed nerves will require frequent policy actions that are consistent and stay the course.