Crossing our River Styx

Crossing our River Styx

Last fortnight’s passage of the Food Security and Land Acquisition legislation was a tactical triumph for the ruling coalition.  The opposition had to bite its tongue; it was a clever feint, but the body blows are landing fast and hard on growth and investment, and we are against the ropes, bloodied and dazed.  The truth is that those in authority have lost all credibility, and those in business have lost their social contract.  Crony capitalism coupled with cruelly capricious decisions has gutted what was not so long ago a raging bull of an economy.

If you go back to the mid-2000s, India was growing very rapidly and the belief of the middle classes and business was that there was a very talented team running the economy, with an economist prime minister and a half-decent finance minister. There was faith that the central bank would keep inflation low and all would be well.

All of that has come to nought. The RBI let inflation get out of control. Relations between the RBI governor and the finance minister were appallingly bad.

Most of us do not seem to grasp the seriousness of the situation.  Food price inflation was ignored under the pretext that the benefits of growth needed to spread to rural India.  Gorged with high inflows of foreign funds, the government threw money around like a drunkard at a casino.  Indians felt they had an inalienable right to grow rapidly, that India was finally getting the growth it deserved.  The goal of “spreading” the riches to the mythical aam admi  became a moral and not an economic issue.

India did not recognise the fragility of growth. Prices – chiefly of food – rose and rose inexorably. If inflation is very high, people turn away from money.  They stop saving through the financial system and turn to gold.  What had almost never happened in any developing economy happened here – as the economy slowed down, there was a blowing out of the current account.  Instead of imports slowing, Indians shipped in more and more gold.  As the downturn deepened, investments fell and savings fell even more because of inflation, so people ‘saved’ with gold.  India’s current account was being financed by foreign savings, a.k.a. foreign fund inflows.  That was fine so long as growth was rapid.  But in 2012 India really started to slow down.  This had nothing to do with the United States, or Ben Bernanke, or the terror of “tapering”. Simply put, foreigners became very reluctant to lend money to spendthrift India.  The rupee’s exchange rate began to weaken a little over a year ago. When P. Chidambaram took over he initially tried to restore the credibility of the government but here’s what happened:

1.    The government still did not tackle Consumer Price Inflation.

2.    Chidambaram’s attempts to introduce reforms and reduce the budget deficit proved to be a chimera. The bankruptcy of policy was badly exposed when the government passed the Food Security Act.  This meant that it could not care less about the budget deficit.

Gold imports will climb even higher in the months ahead.  The rupee, which has already been factored in at 70 to the dollar, will slip even lower.  So what can we do? We need to restore credibility to policy.   We need big measures, and political courage.  We need to be able to stand up and say that the Food Security Bill is great but we cannot afford it right now.  We need to be able to say “We learned a lesson – when you have excellent growth, you don’t spend all the money.” 

The trouble is that our policy dinosaurs don’t view inflation as a problem or growth as fragile.  The result is that investors, both domestic and foreign, who have to deal with the real economy, have lost confidence.

The two most important and critically urgent goals now are: keep inflation low, and keep the budget deficit under control, or we will end up like Zimbabwe. 

“I would not use ‘crisis’ and ‘India’ in the same sentence,” new central bank governor Raghuram Rajan told reporters on September 4.  Yes, but how quickly have ‘growth’ and ‘India’ become antonyms.

(This column appeared in Business Today, Sept 29 2013)

It’s the elections, stupid

Pranab Mukherjee is starting to look worryingly like a feckless heir squandering his generous inheritance while his fretful guardian in the person of Duvvuri Subbarao tries to board up the door and keep the wolves at bay with a nail here and a nail there.

The “history sheet” is simple and clear. Later this month, Mukherjee will present his third budget since the United Progressive Alliance came to power in the 2009 election. UPA-I, by hugely increasing social-sector expenditure in its two final years, 2007-2009, effectively torpedoed the Fiscal Responsibility and Budget Management Act, which mandates that fiscal deficit be cut to 3 per cent of GDP by 2008/09.

India’s financial mandarins argued that fiscal stimulation was called for to battle the global downturn and to deepen “inclusive” growth. The fiscal deficit shot up to 6.0 per cent in 2008/09, 6.7 per cent in 2009/10, and is projected at 5.5 per cent in 2010/22. As a Royal Bank of Scotland analysis put it, even if you take the windfall from the 3G spectrum auction into account, achieving next year’s 4.8 per cent target seems impossible. And to think that back in 2004, flush from its victory, the UPA actually predicted a balanced budget by 2008/09.

Experts will tell you that once the economy had come through the recessionary shoals, the aam admi stimulus ought to have been pulled back and more funds poured into infrastructure and manufacturing. Instead, populist spending is only likely to increase, said Dr Rajiv Kumar, Director General of the Federation of Indian Chambers of Commerce and Industry, or FICCI. Mukherjee, ever the fixer-upper for the Congress party, will have to keep an eye out for five key state elections this summer, including West Bengal, Tamil Nadu and Kerala. The spending cannot stop. The Uttar Pradesh state election in 2012 will call for some huge sops. Then comes 2013, and the general election – assuming the UPA government is still in power, scandals, legislative gridlock and all.

An international economist who closely watches India said with ample revenues in its coffers, the fiscal situation ought to have improvc1ed. “But it is not. Instead, all the revenues (and more) are being spent on new social programmes. Now it is true that social indicators are poor, and more needs to be done to help the poor. But it is hard to avoid the impression that the government sees the poor as vote banks, which they can tap as long as they provide them with funds. And surely at least a portion of the revenues could be saved, to give India some manoeuvring room in case a crisis hits?”

“There has been too much stoking up of consumption demand,” said Kumar, “and not enough capacity expansion.” The central bank, too, says only by spending more on capital expenditure will the government be able to fight some of the bottlenecks that contribute to supply-side inflation.

Inflation is now entrenched, and food price inflation is here to stay, fuelled by rising consumption of proteins as buying power increases in the countryside. The RBI’s review of the September-December 2010 economy commented drily that “The rise in food inflation has not only persisted for more than two years now, the increase has been rather sharp in the recent period.” And Subbarao, in his January 25 statement after the central bank raised interest rates for the seventh time this fiscal year, said: “Food inflation has remained at an elevated level for about two years and the prospect of it spilling over to the general inflation process is rapidly becoming a reality.” And so the RBI has raised its estimate for inflation to 7.0 per cent by March-end.

“If you chart inflation, there seems to be a clear break in 2006. Before that, inflation wasn't much of a problem; since then, it has been. Initially much of this was because of food price increases. But now prices are rising more widely, and it is hard not to conclude that monetary policy needs to be tightened substantially, so we can put inflation ‘back in the box’,” Joshua Felman, a former International Monetary Fund, or IMF, representative in India, said.

But monetary policy is a blunt instrument to beat inflation over its head with. The RBI rubbed this in: “Monetary policy works most efficiently while dealing with an inflationary situation when the fiscal situation is under control.”

Because of poor storage and infrastructure, there are huge productivity losses. “And supply is unable to keep up,” said Kumar. “At the same time, cereal yields have been stagnating.” A Nomura paper on food prices last September noted that the food weighting in consumer price inflation, or CPI, in advanced economies was typically between 10 and 20 per cent, whereas it was about one-third in China and as high as 46 per cent in India. “A sustained surge in food prices can have more pernicious effects if it unmoors inflationary expectations, impelling workers to demand higher wages to compensate for rising food costs, thus setting off a wage-price inflation spiral,” the Nomura report said. This is exactly what is happening in India.

With bank lending rates upward of 11 per cent, manufacturers face a nasty squeeze. FICCI’s Kumar pointed out that 90 per cent of State Bank of India lending over the past three quarters went towards infrastructure projects, and only 10 per cent went to manufacturing. “The cost of capital is likely to go up further,” said Kumar.

Dr Chakravarty Rangarajan, Chairman of the Prime Minister’s Economic Advisory Council, said food inflation has been a problem for over two years. “In a situation like this, management of the supply side is critical,” he told Business Today. In mitigation, Rangarajan said, prices of cereals like wheat and pulses have dropped, but the prices of meat, fish, eggs, vegetables and fruit have risen sharply.

Felman, who now works in the IMF’s research department in Washington, D.C., said he was worried about whether investment is truly recovering. “Here the signs are very mixed. Credit is growing nicely, and infrastructure projects such as power and roads seem to be moving ahead. But other greenfield projects seem stuck, held back by investor caution, land issues and the complex process of securing environmental clearances. So, investment does not seem to be booming the way it was before the crisis, and this is worrisome.”

The RBI’s quarterly review echoed with warnings. The current-account deficit, or CAD, will hit 3.5 per cent this fiscal year, and is “unsustainable”, the central bank said. But with global commodity prices rising, import bills look like staying high. Foreign direct investments, or FDI, could help finance this deficit, but the bad news is that FDI flows into construction, real estate, business and financial services have declined, while foreign institutional investors’ equity investments accounted for 79 per cent of net capital inflows of $36.7 billion during April-September 2010. This is clearly not desirable or sustainable, and the central bank said that “environment sensitive policies” – read Jairam Ramesh’s activism – have triggered a fall-off in FDI. “Added to this are the persistent procedural delays, land acquisition issues and availability of quality infrastructure,” the RBI said.

Will the UPA government quicken reforms to address these problems? The international economist was not sanguine. “Everyone expected that once the Left Front was kicked out of the coalition, reforms would accelerate. Instead, they've slowed down,” he said.

The IMF’s Felman said his final concern was the “governance deficit”. “A decade ago the question for reformers was whether the government would give the market sufficient space to operate,” he says. “Now, the issue is the reverse: whether the government has sufficient room to do what it needs to do, namely set fair rules of the game in which firms would operate. In a nation where there are more than one billion competing people, each striving for a fair chance in life, this is not just a problem. It is a tragedy.”

On a Wing and a Prayer

Last week I called up a friend. She was on the train from Bangalore to Chennai. I was surprised. She is not the kind of person who travels by train. I asked her how long the train journey takes. Four and a half hours, she replied. So why are you taking a train when you are so busy and time is so important, I asked. Simple, she said. “It takes an hour and a half from my office to Bangalore airport. Then there is check-in, security checks, a delayed take-off because the plane arrived late, more time on the tarmac while waiting for clearance from Air Traffic Control, and then a 45-minute flight. I found it quicker to take a train. There is less stress, minimal turbulence, and I can read a book!”

This is really the story of India, and of countless surveys and papers in which Elephant India is compared with Tiger China. I have travelled to nearly every country in Asia and their airports always made me cringe in shame at the memory of Delhi or Mumbai. Changi, Chep Lak Kok, Incheon, Bangkok, Narita, Kansai, Beijing, Shanghai, Jakarta, Lahore – even Hanoi and Ho Chi Minh City and Phnom Penh – all made me wish I could return to Delhi and not have to descend dark stairs, get into a jerky bus, and enter a terminal building with a smelly entranceway to wait for baggage that is brought in on clanking trailers and thrown roughly on a creaky old belt by tired men.

Just before the elections, as my plane circled Delhi, I was struck by how similar our politics and our state-owned airline are. "We know you have a choice of other airlines (parties) but we appreciate your custom (votes)". Ageing aircraft (infrastructure) crewed by ageing staff (politicians). Endlessly stacked-up planes waiting for permission to land ... don't they conjure up a picture of endless project delays? "Don't blame us, blame the weather/air traffic control/technical faults/late arrival of our own plane" sound so much like "Don't blame us, blame our coalition partners/the opposition/the global economy/the ISI/late arrival of the monsoon".

It costs more to fly from Delhi to Kerala than to Singapore, but that's not our fault -- look at how our nasty trade partners are trying to get us to lower our tariffs and taxes so they can fill our skies with their planes. Lost baggage (promises)? Not our fault again -- it's our alliance partners. Please continue to give us your business (votes) -- we promise things will get better once we have that extra runway (a few more parliament seats). Coming off my plane, exhausted and wrung-out, I saw signs that promised a better airport by next year. Where would we be if we had not offered to host the Commonwealth Games?

Prime Minister Manmohan Singh has referred constantly to the need for more infrastructure to lift India out of the seven to eight percent growth rut. If India does not grow at a steady double-digit rate over the next decade, the elephant will stumble, and fall to its knees. Last week President Pratibha Patil referred to infrastructure as one of the key goals of the new government: “(Attention to recession-affected sectors) must be accompanied by measures to achieve a countercyclical expansion in public investment in infrastructure sectors including public-private partnerships in these sectors. Financing the investment will be a critical constraint and my Government is determined to ensure that innovative steps are taken in this area, consistent with a medium-term strategy of prudent fiscal management.”

Back in February, India’s interim budget said 50 new infrastructure projects worth Rs 67,700 crore ($14.5 billion) had been approved, and the India Infrastructure Finance Company, which will finance 60 percent of commercial loans in critical public-private partnerships, plans to raise Rs 30,000 crore ($6.8 billion) during the current fiscal year ending March 2010.

It helps if you are a Congress government with a clutch of Nehru-Gandhi names to christen every new populist spending plan. We have the Jawaharlal Nehru National Urban Renewal Mission, which has spent over Rs 50,000 crore ($10.6 billion) over the past four years on the “urban poor”. Under the Indira Awas Yojana, the government has built more than six million homes for rural poor. And now, President Patil has announced the Rajiv Awas Yojana, which aims to build a “slum free” India for the 62 million people living in shanties in the nation’s cities.

All these schemes come at a steep price. There was a huge surge in what can only be described as election-year fiscal profligacy in 2008/9. The government’s revenue deficit shot up to 4.4 percent of GDP against an estimated 1.0 percent – a four-fold increase. The fiscal deficit has alarmingly rocketed to Rs 326,515 crore ($69.5 billion) or 6 percent of GDP from the original estimate of 2.5 percent. In ordinary language, the Indian government was printing money – literally. And Reserve Bank of India figures bear this out. In the week ended May 29, currency in circulation totalled Rs 709,364 crore ($150.9 billion), a rise of Rs 96,699 crore ($20.6 billion) over a year earlier.

But what about the poor in India, the target of all this largesse? Are the country’s 1.2 billion people truly moving towards economic equity? In its Global Economic Prospects 2009 report last December, the World Bank noted that rising food prices were hitting the poor hardest. In urban areas in South Asia, it warned, poverty levels had gone up by as much as 4.4 percentage points – the highest in the developing world.

Already, 32.3 percent of the urban population and 43.3 percent of the rural population in South Asia is poor, that is, living at or below the “poverty benchmark” of 1.25 U.S. dollars (less than 60 rupees) a day. This is only slightly better than Sub-Saharan Africa. “Capital inflows have diminished, contributing to falloff in investment growth, particularly in India,” the World Bank said in a March 2009 update. “Fiscal support for slowing economies may face constraints in already quite high budget deficits.”

In her speech to Parliament last week, President Patil said new targets will soon be set for rural electrification by the new government. That will be of some consolation to Ramakanta Sethi, a Dalit boy from the fishing village of Kendrapara in Orissa. Ramakanta, who herded cattle during the day, did exceedingly well in his high school examination, studying at night with only a kerosene lantern for light. When Chief Minister Naveen Patnaik, re-elected last month with a landslide majority on a good-performance ticket, congratulated Ramakanta on his success, embarrassed officials promised to make amends for the darkness in Kendrapara. Electrifying news indeed.
(This appeared in the Khaleej Times on June 9, 2009)