Repairing the Indian economy
High-frequency indicators suggest that the Indian economy is seeing a robust recovery. The Nomura India Business Resumption Index (NIBRI) reached an all-time high of 108.8 in the week ending October 17. Anecdotal evidence suggests that at least a section of consumers is spending with a vengeance for the festive season, and will likely spend even more, if supplies were not a problem. And at least 75% of India’s adult population has received at least one shot of Covid-19 vaccine, lessening the risk of a third wave.
Sure, there are serious concerns about inflation, now that the seasonal spike in vegetable prices has added to the momentum of international commodity price inflation. However, it will be wrong to believe that inflation is the only challenge facing the Indian economy.
This newspaper has been arguing that the Covid-19 pandemic worsened the demand crisis in the Indian economy, and that the way to overcome this is a sustained and targeted fiscal stimulus. The report of latest Article IV consultation of IMF with the Government of India buttresses this argument. While IMF concurs on the projected GDP growth rate of 9.5% for 2021-22, it has made a downward revision of 25 basis points – one basis point is one hundredth of a percentage point – to India’s potential growth rate over the medium term. This now stands at 6%.
Potential growth rate is the rate at which an economy can grow without stoking inflation. Given India’s low per capita income levels, it cannot afford to settle at a 6% growth rate if living standards have to rise adequately.
The IMF report flags headwinds for capital investment and weakness in labour markets as major reasons for this downward revision. The IMF’s is not the first warning on concerns about India’s potential growth rate. In a research note published in August, HSBC Securities and Capital Markets’ chief India economist Pranjul Bhandari flagged the issue. “Monetary policy has its limits in driving growth. It is a countercyclical tool and can help close the output gap, but not drive potential growth,” her note said.
The IMF report rightly notes that the government’s rejuvenated push towards disinvestment and other reforms could boost growth in the long-term. But it is important to realise that it will take a sustained and focused effort to repair the balance sheet damage in the informal economy, at level of both workers and businesses. Their contribution to long-term growth prospects of the Indian economy is by no means insignificant. The sequential recovery, while laudable and encouraging, should not be allowed to distract attention from this fact.