Here are few key challenges of the Indian economy to be concentrated and solved by new NDA / Modi Government which exist for long.
The first key challenge will be to start bringing India’s current account deficit to sustainable levels. The deficit has widened to a record 4.2 percent of GDP in 2013-14, far above what the Reserve Bank of India considers to be a sustainable level, namely 2.5 percent of GDP. The key reason for the large current account deficit lies in the trade deficit having ballooned due to India’s relatively poor competitiveness and high dependence on oil and gold imports, which alone account for virtually half of total imports. Boosting merchandise exports through greater diversification across destinations and products are essential to bridge the trade deficit but this cannot be achieved without boosting labor productivity and enhancing transportation infrastructure, especially ports. With regards to gold, dematerialization, and introduction of inflation linked bonds would help reduce its physical imports of gold. Meanwhile, for oil, achieving greater energy efficiency, aligning domestic oil prices to international ones are a key.
The second challenge is qualitative and quantitative fiscal consolidation: Together with the current account deficit, the stubbornly high fiscal deficit (5.8 percent of GDP in 2013-14) makes the Indian economy more vulnerable to shocks than most emerging markets. India’s twin deficits have adversely affected macro stability by pushing up inflation, undermining growth and leaving limited room for monetary accommodation. India’s fiscal policy has been too loose for too long. The government must focus on quality spending by channeling resources towards infrastructure and human capital investments while reducing unproductive spending, particularly on food, fertilizer and fuel subsidies. Furthermore, the government must implement revenue enhancing reforms by making the tax system more efficient and improving compliance.
The third challenge, very much related to the previous one, is lowering high and sticky inflation. India’s persistently high inflation is fallout of myriad factors that are both cyclical and structural in nature. These include supply side bottlenecks, very high reliance on imported energy and lax fiscal policy. While a loose fiscal policy has boosted aggregate demand, particularly across rural areas, an enabling environment to enhance supply response is missing, thus aggravating inflation pressures. Containing inflation near the RBI’s comfort zone of 4 to 5 percent is crucial to facilitate sustainable growth.
The fourth challenge lies in rebalancing the growth mix in favor of investment: India’s GDP growth is mainly consumption driven in good part due to consumption subsidies.
Eliminating such subsidies will, thus, actually have three positive outcomes: reducing the fiscal deficit as well as excessive consumption which should also help reignite a virtuous savings investment cycle. In fact, since the global financial crisis of 2008-09, India’s savings rate has declined (to near 29 percent from a peak of 37 percent in 2009) amid high inflation and fiscal slippages. Given that India’s investment upturn during the golden years between 2004-2008 was largely financed by domestic savings, a revival in India’s domestic savings is critical for aiding a sustainable upturn in investment. In this regard, the Indian government needs to improve further on reforms execution and policy clarity so as to underpin foreign investor confidence.
The fifth challenge is Building confidence is essential for encouraging private participation and sustaining growth momentum. Pending areas of reform that are within the domain of the Executive including clarity on transfer pricing, FDI in retail and removal of APMC Acts are of crucial importance. A predetermined time bound set course of action as in the case of diesel price deregulation, would be most helpful. Lastly, addressing sectoral bottlenecks e.g, railway connectivity to mines, revised PPP framework for roads, incentive structure for E&P in the hydrocarbon sector and a more rule based pricing of natural resources would go a long way to kickstart the investment cycle. Second, the job of revival of growth is particularly difficult while at the same time we try to reduce the macroeconomic risks that have accumulated already. Inflation remain high because pressure points in inflation has emerged at regular intervals – whether its base effect, flare of international commodity prices, monsoon unevenness or even structural shift food basket due to rising income particularly rural regeneration.
Addressing sectoral bottlenecks as highlighted above itself would help improve supply. Besides we need some targeted intervention in the area of food economy including improving cold storage, moderated MSP hike, removal of APMC, etc. We don’t concur with hardening of monetary policy as a solution to inflation control. On the second risk element of fiscal deficit, the Government including after election, needs to follow the preset fiscal corrective roadmap or even better it. Third, the correction in CAD/GDP now seem to have taken root with investment demand for gold evaporating on its own aside from the regulatory curb while capital goods imports remain limited due to slowdown.
The sisth challenge is piece of the puzzle is a more coordinated policy making between monetary and fiscal authorities in the first place and a more anticyclical response from both. Attempt to correct fiscal laxity through a tighter than warranted monetary policy creates sectoral mismatches, e.g., consumption boom coupled with a slump in the investment cycle. It is better that the monetary responses are measured so as to balance the considerations of growth, inflation, the stage of economic cycle, the sources of inflation and consequences of rate decisions.
The seventh challenge is to the boost manufacturing sector: Being a primarily services driven economy, the share of manufacturing has been stagnant at a mere 16 percent of total GDP. India’s Asian peers, such as China, South Korea and Taiwan, have immensely benefited from a strong manufacturing sector, which enables greater employment creation, attracts higher and stable foreign direct investment and bolsters infrastructure development. However, bottlenecks in land acquisition, archaic labor laws, poor physical infrastructure, less favorable tax rules and tight regulations deter manufacturing sector growth in India. Reassuringly, the Indian government has approved a national manufacturing policy aimed to increase the manufacturing’s share in GDP from the current 16 to 22 percent in a decade and in turn create millions of jobs and add capacity to sustain the pace of economic growth. That said, effective implementation of such policy drive will clearly prove difficult given past records.
All in all, although India’s challenges for 2014-15 look massive, they could still be manageable given India’s huge growth engines stemming from a young and massive population in a deep urbanization process. The Indian government must grasp the opportunity of reform in the good times rather than waiting any longer.
One positive side is that the first time in three decades, the Bharatiya Janata Party (BJP) has won so many seats (282 out of 543) in India’s recently-concluded general elections that it can hope to be in office for the next five years without the support of another political party. Not only does that give the BJP an unequivocal mandate for change, but also, it allows the right-of-center party to adopt a long-term perspective while making economic policy decisions, under the circumatances where the last UPA / Manmohan Singh Government has shown policy paralisis in all areas.
The first key challenge will be to start bringing India’s current account deficit to sustainable levels. The deficit has widened to a record 4.2 percent of GDP in 2013-14, far above what the Reserve Bank of India considers to be a sustainable level, namely 2.5 percent of GDP. The key reason for the large current account deficit lies in the trade deficit having ballooned due to India’s relatively poor competitiveness and high dependence on oil and gold imports, which alone account for virtually half of total imports. Boosting merchandise exports through greater diversification across destinations and products are essential to bridge the trade deficit but this cannot be achieved without boosting labor productivity and enhancing transportation infrastructure, especially ports. With regards to gold, dematerialization, and introduction of inflation linked bonds would help reduce its physical imports of gold. Meanwhile, for oil, achieving greater energy efficiency, aligning domestic oil prices to international ones are a key.
The second challenge is qualitative and quantitative fiscal consolidation: Together with the current account deficit, the stubbornly high fiscal deficit (5.8 percent of GDP in 2013-14) makes the Indian economy more vulnerable to shocks than most emerging markets. India’s twin deficits have adversely affected macro stability by pushing up inflation, undermining growth and leaving limited room for monetary accommodation. India’s fiscal policy has been too loose for too long. The government must focus on quality spending by channeling resources towards infrastructure and human capital investments while reducing unproductive spending, particularly on food, fertilizer and fuel subsidies. Furthermore, the government must implement revenue enhancing reforms by making the tax system more efficient and improving compliance.
The third challenge, very much related to the previous one, is lowering high and sticky inflation. India’s persistently high inflation is fallout of myriad factors that are both cyclical and structural in nature. These include supply side bottlenecks, very high reliance on imported energy and lax fiscal policy. While a loose fiscal policy has boosted aggregate demand, particularly across rural areas, an enabling environment to enhance supply response is missing, thus aggravating inflation pressures. Containing inflation near the RBI’s comfort zone of 4 to 5 percent is crucial to facilitate sustainable growth.
The fourth challenge lies in rebalancing the growth mix in favor of investment: India’s GDP growth is mainly consumption driven in good part due to consumption subsidies.
Eliminating such subsidies will, thus, actually have three positive outcomes: reducing the fiscal deficit as well as excessive consumption which should also help reignite a virtuous savings investment cycle. In fact, since the global financial crisis of 2008-09, India’s savings rate has declined (to near 29 percent from a peak of 37 percent in 2009) amid high inflation and fiscal slippages. Given that India’s investment upturn during the golden years between 2004-2008 was largely financed by domestic savings, a revival in India’s domestic savings is critical for aiding a sustainable upturn in investment. In this regard, the Indian government needs to improve further on reforms execution and policy clarity so as to underpin foreign investor confidence.
The fifth challenge is Building confidence is essential for encouraging private participation and sustaining growth momentum. Pending areas of reform that are within the domain of the Executive including clarity on transfer pricing, FDI in retail and removal of APMC Acts are of crucial importance. A predetermined time bound set course of action as in the case of diesel price deregulation, would be most helpful. Lastly, addressing sectoral bottlenecks e.g, railway connectivity to mines, revised PPP framework for roads, incentive structure for E&P in the hydrocarbon sector and a more rule based pricing of natural resources would go a long way to kickstart the investment cycle. Second, the job of revival of growth is particularly difficult while at the same time we try to reduce the macroeconomic risks that have accumulated already. Inflation remain high because pressure points in inflation has emerged at regular intervals – whether its base effect, flare of international commodity prices, monsoon unevenness or even structural shift food basket due to rising income particularly rural regeneration.
Addressing sectoral bottlenecks as highlighted above itself would help improve supply. Besides we need some targeted intervention in the area of food economy including improving cold storage, moderated MSP hike, removal of APMC, etc. We don’t concur with hardening of monetary policy as a solution to inflation control. On the second risk element of fiscal deficit, the Government including after election, needs to follow the preset fiscal corrective roadmap or even better it. Third, the correction in CAD/GDP now seem to have taken root with investment demand for gold evaporating on its own aside from the regulatory curb while capital goods imports remain limited due to slowdown.
The sisth challenge is piece of the puzzle is a more coordinated policy making between monetary and fiscal authorities in the first place and a more anticyclical response from both. Attempt to correct fiscal laxity through a tighter than warranted monetary policy creates sectoral mismatches, e.g., consumption boom coupled with a slump in the investment cycle. It is better that the monetary responses are measured so as to balance the considerations of growth, inflation, the stage of economic cycle, the sources of inflation and consequences of rate decisions.
The seventh challenge is to the boost manufacturing sector: Being a primarily services driven economy, the share of manufacturing has been stagnant at a mere 16 percent of total GDP. India’s Asian peers, such as China, South Korea and Taiwan, have immensely benefited from a strong manufacturing sector, which enables greater employment creation, attracts higher and stable foreign direct investment and bolsters infrastructure development. However, bottlenecks in land acquisition, archaic labor laws, poor physical infrastructure, less favorable tax rules and tight regulations deter manufacturing sector growth in India. Reassuringly, the Indian government has approved a national manufacturing policy aimed to increase the manufacturing’s share in GDP from the current 16 to 22 percent in a decade and in turn create millions of jobs and add capacity to sustain the pace of economic growth. That said, effective implementation of such policy drive will clearly prove difficult given past records.
All in all, although India’s challenges for 2014-15 look massive, they could still be manageable given India’s huge growth engines stemming from a young and massive population in a deep urbanization process. The Indian government must grasp the opportunity of reform in the good times rather than waiting any longer.
One positive side is that the first time in three decades, the Bharatiya Janata Party (BJP) has won so many seats (282 out of 543) in India’s recently-concluded general elections that it can hope to be in office for the next five years without the support of another political party. Not only does that give the BJP an unequivocal mandate for change, but also, it allows the right-of-center party to adopt a long-term perspective while making economic policy decisions, under the circumatances where the last UPA / Manmohan Singh Government has shown policy paralisis in all areas.