Being optimistic on India

India has changed. Gone is the earlier hesitation about being coldly pragmatic while keeping the public interest in mind. Foggy Post-Colonial and Cold-War ideological baggage is being stowed away, appropriately. The clear guard rails developed for dealing with the Ukrainian crisis do the country proud—extending principled support for the continuation of the international mediation effort, humanitarian assistance, but exercising restraint in allocating blame or choosing sides, since India is an outsider to European security arrangements.

Given the ambivalent stance of China—a permanent member of the United Nations Security Council—and a recent third party in the long-standing India–Russia love fest, clear-sightedness that what is good for the Goose (China) cannot be so bad for the Gander (India), seems a rational response. A “Merkelian” calculus of national cost-benefit with an occasional—very rare—splash of heart, works well.

Not our problem

This calibrated approach, to what is essentially a European problem, reflects not only India’s limited capacity to be a prime mover but also illustrates a willingness to choose its level of engagement in third-party international disputes.  It shows uncharacteristic maturity not to bluster in for a seat at any high table, on the back of its overweight share in the global population, which is sadly, not backed by a similar share in the global economy or trade.

We are hurting too

Nevertheless, India is impacted negatively by the global economic fallout of the ongoing crisis and the sanctions-based containment strategy devised by the “western” alliance to punish Russia. India was walking on thin ice even prior to this crisis. Inflation had already breached the 6-percent-per-annum target set by the Reserve Bank of India (RBI). Now, with inflation exceeding 8 percent in the United States (US) and 7.5 percent in the Euro area, Indian monetary authorities are in the novel position of performing better with inflation a percentage point lower at 7 percent and projected inflation in Q4 of the current fiscal at an outer bound of 6.8 percent at 50 percent confidence level. The only difference is that advanced economies have a deeper fiscal capacity to insulate against downturns. For India, a tight fiscal policy to counter imported fuel prices and supply constraints-driven inflation can scuttle the recovery from the pandemic. Nervous foreign portfolio investors are already net sellers of Indian stocks.

The twin economic imperatives of taming inflation and nurturing investment and growth have become an impossible tightrope walk. The hope was that some of the growth momentum accumulated, as the economy climbed out of the COVID-19 hole, would be maintained by the continued normalisation of supply lines. Surging global demand would provide a growth bridge for Indian exports, whilst prudent domestic fiscal management would create a nurturing ecosystem. The Union government trimmed its fiscal deficit from 6.9 percent last fiscal to 6.4 percent. However, it is a long road to achieving the upper-level fiscal deficit norm of 4 percent. Meanwhile, public debt accumulates, servicing which will crowd out productive new expenditure.

Mitigation options

India is not unique in facing these constraints. Much of the response would be feeling the stones while crossing the river. Nevertheless, a publicly shared, working framework strategy could help.

Some of these are familiar tasks, such as bending the arc of the fiscal deficit down to manageable levels of a combined 8 percent for the Union (3 to 4 percent) and the states (4 percent). However, more clarity on where the expenditure cuts should or would be made would help in the long term. The Modi years have spawned a plethora of welfare measures. The pandemic response has added to this quiver of welfare subsidies. Cutting back on subsidies risks enhancing poverty levels if investment and faster economic growth do not kick in. The RBI expects real growth in Q4 of this fiscal to dwindle to 4 percent. This is worrying for poverty alleviation.

Estimates of poverty differ. A World Bank working paper ( Sinha Roy and van de Weide, April 2022estimates a reduction in poverty levels (US$1.9 PPP basis) from 22.4 percent in 2011 to 10.25 percent by 2019. Using an approach that normalizes data from the CMIE Consumer Pyramids Households Survey with the National Sample Survey 2011 data for better comparability across time, this assessment notes that poverty reductions was faster in rural areas versus urban areas.

Bhalla, Bhasin, and Virmani, in a recent IMF working paper, however, point out that the classic survey method of recording consumption at nominal value in terms of cash spent, overestimates poverty. Since the 1980s, India has subsidized the consumption of food—which comprises 60 percent of the average consumption basket of the poor. Since 2013, under the Food Security Act, three-fourths of the rural population and half of the urban population have been beneficiaries of such aid. Valuing food aid at market prices rather than the lower issue price, dramatically hikes consumption levels, thereby, lowering the poverty levels from 22.5 percent in 2011 to 10.8 percent and further to 0.8 percent by 2019 versus 10.2 percent in the traditional approach. This assessment shows only a marginal increase in poverty to 0.9 percent in 2020 (the year of the pandemic) and credits the doubling of food aid per person during the pandemic for this achievement. Some of the food aid might have been swapped for other necessities, thereby, acting as a broader net income support. The paper also endorses earlier work which showed that the Indian “in-kind” or “net income” support is contextually superior and cheaper to implement, than the universal basic income, direct cash support championed by western academics.

More interestingly, this paper also evidences the well-known aphorism that “inflation affects the poorest the most”. It asserts that poverty reduction was the fastest during the period 2014–2019 despite growth being tepid at 5.4 percent per year. In contrast, poverty reduction was slower over the period 2004–2011 when growth was higher at 6.4 percent per year. The difference was that inflation was low during the period 2014–2019 at 3.6 percent per year as compared to 8.4 percent per year during the earlier period. The lesson going forward is that sacrificing stability for growth is a high-risk strategy with negative consequences for the poor.

Sacrificing tax revenues to bust inflation

India could manage some reduction in inflation by cutting back on indirect taxes—customs, the Goods and Services Tax, and excise duties on petroleum products. Indirect taxes (Union and states combined) accounted for 61 percent of the total tax revenue over the three-year period— fiscal 2019 to 2021. However, can we offset the loss in indirect tax revenue through an uptick in direct tax collection along with a significant increase in property tax at the state government/municipal level?

Monetizing assets can help

A more decisive program for monetizing assets has become essential to finance infrastructure development. And we can no longer ignore the need for a major rearmament program to boost the conventional military capability and nuclear deterrence systems. Irrespective of whether China blows hot or cold, the one lesson from Ukraine is that cutting-edge military preparedness is not to be trifled with.

Choose “bang for the buck” public investment projects

The prospects for growth are moderate. Fiscal 2023 could be a year of rejuvenation even though headwinds—a slowdown in global growth, higher inflation, and continuing worries on domestic industrial stagnation—present pain points needing adroit management of industrial and fiscal policy. Small government is not in the political genes of the BJP or any other Indian party. And it is easy to be lulled into overreaching on public investments without considering the necessary accompanying incremental returns from such investment. Does it make sense to invest in infrastructure (a generic public good) just for the jobs that such construction activity creates unless project revenue from tolls or cheap debt from alternative green finance sources makes the investment viable?

Big projects can be wasteful

The cult of big public investments has a disturbing path dependency. Sans good project oversight and timely audit, investment to GDP ratios can balloon if fueled by debt, whilst GDP output to investment ratios stagnate as the volume of work-in-progress expands far beyond completion deadlines. This is how private construction companies go bankrupt, whilst public sector project overruns erode prospects of future profitability.

Spare a though for structural deficiencies

It is unlikely that the structural deficiencies of India—multiple authorities with splintered budgets, regulatory spaghetti, and less than adequate outlays for delivering quality public services—can change in the near term. The generalised inefficiency in the delivery of public services—education, health, utility services (electricity, water supply, telecom, public transport), security, and the rule of law— present the gravest challenge to our transition from a lower-middle-income to an upper-middle-income economy.

Fixing the plumbing” is grunt work for which politicians have little patience. The Indian system embeds a permanent bureaucracy to provide institutional continuity and professional leadership. Not using its fullest potential would be a mistake. Injecting confidence, a sense of self-worth, and commitment to constitutional mandates can revitalize public administration and compensate for the absence of effective parliamentary checks and balances in the face of overwhelming ruling-party dominance. Even well-meaning in-house political muscle, needs an external regulator to harness political energy productively.

Extracted from the authors opinion piece in April 30, 2022

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s