Saturday, September 28, 2013

Revisiting India's Growth - A Flip Flop Story

India’s growth A flip flop story:
B. Yerram Raju
India was the cynosure of the rest of the world when it clocked an average annual growth of 8.5% during 2005-10. When it fell precipitously to less than 5% expectation this fiscal it equally became a point of discussion. The bubble of growth got pricked with scams, scandals and charges of corruption among the rulers and ruling gentry. Supreme Court said over 30% of the Members of Parliament are tainted and cannot afford to be in the ruling galleries based on the Right to Information Act petition. While all the progressive legislations aimed at further reforms to the economy are waiting in the corridors of the Parliament, the RTI Act was amended to provide reprieve to the affected Members and also allowing even those in Jails to contest the elections. Why in any case India should interest the world in the first place? It has 350mn Middle Class and around 300mn the poor and not-so-poor providing a huge domestic market for any FII seeking entry. The present Government has been very accommodative to the FDIs, FIIs to come into the retail markets and bending backwards for the hitherto barred defense sector. In order to balance the social and economic forces, the Food Security Act has been brought into position that involved a huge subsidy flow that could easily up set its fiscal deficit calculations.
IMF and World Bank also downsized their growth expectation to 3.5 from 3.7 percent during the current fiscal. Emerging economies in general have been steadily slowing with India and China in the lead. Not long ago the IMF said that global growth would be driven by the emerging economies growth and there is a sudden volte face. It is this contextual reference that would make the flip flop of India’s growth story interesting for the rest of the world to take note of.
Inflation continues to be a major worry with the country’s topmost economic advisor Dr Rangarajan warning of the likely stagflation. Domestic savings are not growing at sustainable rate any longer and this is a serious cause for worry. Banks’ short term deposits are on the increase but the medium and long term deposits are on decline whereas the demand for long term credit is increasing with housing, real estate, infrastructure denting the AML of Banks. Decline in savings rate is loss of fundamentals of the economy. There is keenness to do all that is necessary to let it grow to no less than 28-30 percent and this can be done in two ways: incentivize savings through fiscal policy and protect the deposit rates against rising prices. Raghuram Rajan, the new Governor, Reserve Bank in his first Monetary Policy statement on the 20th September 2013 confirmed that controlling inflation and improving the savings and pushing financial inclusion agenda are critical to the economy by raising the rate by 25 basis points contrary to the expectation of pushing the interest rates down. Markets were in fact shocked.
The Flop Side:
Post-liberalization trended towards a sustainable growth in the services sector while the country has to look for investors from developed countries for growth in infrastructure not supported by right policies.
Even to stay where they are in growth trajectory, India needs multiple times of investments in school buildings (most public school buildings in villages and towns are in dilapidated state: some with collapsing roofs; some with no basic amenities like safe drinking water and wash rooms for children; no play grounds; no teaching aids etc.); primary health clinics; safe drinking water; drainage and sewerage systems; sanitation; highways – both central and state; repairs to rail tracks and replacement of train compartments at galloping speed to catch up with the new trains and emerging demands on rail traffic; goods transport coaches; airport maintenance etc., most of which are with the governments, State and Centre. The resources have to be found either through public borrowing or increase in taxes. If it has to borrow, it will be of long term nature as all such assets have no prospect of returning either the principal or interest. Its capacity to indulge in fiscal deficit is peaking. The virtuous moves of right to employment, right to education and food security have their loopholes in the systems that were created to result in their effectiveness.
The country’s natural resources are declining in productivity: rivers are silting more at the nose-end where they join the sea; minerals like coal to generate the thermal energy are inferior although the stocks are assured till 2050 but these are environmentally hostile; the country has very little natural gas, fossil fuels and has to depend on such of these depleting resources of the West and Middle East; soils are also depleting in energy with regeneration requiring huge organic resources; nuclear and solar energy are proving to be highly expensive.
Agriculture production though has potential still left in the virgin soils of Bihar and eastern UP on the Ganges plains, frequent flooding of rivers and mismanagement of rivers does not leave enough hope for sustainable growth here. Forest wealth is also degenerating. Animal and bird population to maintain ecological balance in the biosphere suffers from disease and malnutrition due to wanton neglect in most cases and in others due to the ravages of nature like floods, cyclones, tsunamis and earthquakes. Claims just keep growing while resources keep depleting – and real prices of energy and commodities have begun looking to north with little prospect of looking south. It would appear as though we are peaking limits of growth if we would like to measure growth only by the GDP figures.
Gross Domestic Product is something we need to look at: Is this the right measure? GDP defined as the market value of all goods and services produced in one year by the labour and property in a geographic space – the country. It is therefore more space related than ownership related. If the number went up economists consider that all was well whereas the decline meant that something was going wrong somewhere. GDP does not distinguish between waste, luxury and satisfaction at fundamental levels and there is no accounting for the costs and benefits. It builds inequalities and the glaring examples: the more the rich accumulate riches the GDP increases and takes for granted that this would lead to the poor reducing in numbers; the companies may invest and grow but the employment may go down with every unit of increase in production and the market index rises with no guarantee that employees would have their share equal to their contribution. There is no guarantee that there would be happiness around with growth measured by GDP increases. It was a tiny neighbor Bhutan that first thought of Gross National Happiness has to be measured and now the UN Human Development Index is taking this into account but the nations like ours still find it difficult to move to such measure.
Let me hasten to mention here that we are not alone in this journey of stagnation. There are concerns about the sustainability of economic recovery both in the US and Europe, still worse. In the recent G-20 meet Indian leaders made successful noise that US should not hasten to withdraw the stimulus measures and resort to the threatened Quantitative Easing. This means that the capability of developed nations to come to the aid of India or other developing nations in the midst of their own problems would be on the wane. Indian economy basically is domestic market driven rather than export-driven. Its neighbor China though recovered from the shocking decline is not to see the earlier double-digit growth.
India’s slowdown in such context is not seen as a big worry while new-normal advocates see the alarm bells dinging in the ears. Inflation in terms of CPI is still a worry. Oil prices uncertainty also can throw the expectations bizarre.
The Flip Side:
Technology and innovation have shown the way, no doubt but have also been pointing to certain destructive dimensions. Coming to the Services sector, there has been a fall in growth rate on global cues. It is unlikely that this sector would deliver growth rates of the nature seen in the last decade and half. It would appear that we have to contend with lower growth rates in the next few years unless dramatic essentially Indian innovations surface. The innovations are taking place more in the mobile technology areas and they are all in countries other than India. Trade gap has lessened by 23% during last month. All the hope of rebound is contingent on oil prices not upsetting our import basket.
The big guess of agricultural sector pushing growth to the expected level would seem a bit hasty considering the time lag between production and its reach to the markets. Second, its estimate of manufacturing sector does not look realistic. The capital goods imports that have surged by75% the last eight years could be generating yields in the next six months. Its survey of 2841 companies reveals that the rupee depreciation had impacted only 6% of them. Therefore, it is just logical that CAD did not have adverse impact on the manufacturing sector as feared. However, what happened actually is the neglect of SME sector by the financial sector on one side and inadequate linkage from the large corporate sector on the other. If the capacity utilization of the capital goods sector improves with core sectors like coal, energy, oil and infrastructure showing a mark-up, it is possible that the growth of manufacturing sector could surge.
The key exports that have great potential are in readymade garments and pharmaceuticals. Wherever one goes in the world, we would find the Chinese and Bangladesh readymade garments with local brand linkages. Actually, this sector has been our forte historically. It is the curse of the sector that it did not have a stable encouraging policy for investments and appropriate incentives. This is an area that does not brook delay. Pharmaceuticals are already on the march and hopefully they would establish as global leaders in export markets.
The cabinet sub-committee has just cleared about $2bn of investments in infrastructure just on the eve of this report. The FDIs started looking up and the FIIs also started flowing in during the last ten days. The capital markets looked consistently buoyant during the last five days. If this trend continues, it is very likely, that the forex markets also stabilize. To expect FDIs and FIIs within the next six months to surge would be over-expectation considering the political scenario dancing on uncertainty with General Elections slated in February 2014, just about six months hence.
If demographic dividend that the country is likely to have till at least 2025 should give the advantage, it should invest more in education and health sectors and this would in turn help people think of rationalizing and practicing austerity led growth. The country has to learn the lessons of growth, even if they are the hard way.
In the short term, however, expectations seem to have been changing for the better.
Different agencies have raised varying growth expectations of the Indian economy at the end of the current fiscal. World Bank placed it at 4.5%; CRISIL in its latest analysis reports that the growth rate could at best stabilize at 4.8% at the end of the current fiscal and the rupee may rally back to Rs.60 a dollar. Prime Minister’s Economic Advisory Council has put it at 5.3% while the Reserve Bank of India in its monetary policy of July 30 placed it at 5.5%. Most estimates are on the basis of a rebound of growth of agricultural sector to more than 4% stabilizing the food prices and the CPI, a bizarre guess indeed for there would be certain time lag between the growths in farm production to reach the consumer windows!
The newly appointed Governor Raghuram Rajan would also seem to have anointed the economy a bit in a fortnight of his assumption of charge with the announcement of a slew of intentions to liberalize the banking sector. But his maiden monetary policy told it all.
But there is some hope on the horizon for the manufacturing sector, I am prepared to buy. The capital goods imports that have surged by75% the last eight years could be generating yields in the next six months. Its survey of 2841 companies reveals that the rupee depreciation had impacted only 6% of them. Therefore, it is just logical that CAD did not have adverse impact on the manufacturing sector as feared. However, what happened actually is the neglect of SME sector by the financial sector on one side and inadequate linkage from the large corporate sector on the other. If the capacity utilization of the capital goods sector improves with core sectors like coal, energy, oil and infrastructure showing a mark-up, it is possible that the growth of manufacturing sector could surge.
The key exports that have great potential are in readymade garments and pharmaceuticals. Actually, this sector has been our forte historically. It is the curse of the sector that it did not have a stable encouraging policy for investments and appropriate incentives. This is an area that does not brook delay. Pharmaceuticals are already on the march and hopefully they would establish as global leaders in export markets. Hopefully there would be corrections.
The cabinet sub-committee has just cleared about $2bn of investments in infrastructure just on the eve of this report. The FDIs started looking up and the FIIs also started flowing in during the last ten days. The capital markets looked consistently buoyant during the last five days. If this trend continues, it is very likely, that the forex markets also stabilize. To expect FDIs and FIIs within the next six months to surge would be over-expectation considering the political scenario dancing on uncertainty with General Elections slated in February 2014, just about six months hence. Fiscal profligacy cannot be ruled out.
Reminded of J.S. Mill (1806-73): “It must always have been seen, more or less distinctly, by political economists that the increase in wealth is not boundless: that at the end of what they term the progressive state lays the stationary state.”
Investors taking interest in India should look at the following sectors keenly:
Energy sector; Real Estate Sector; Pharmaceuticals; Ready Made Garments sector; Automobiles and Precision Instruments Industry and Financial Sector. These stocks have been showing less volatility lately and the trend is likely to continue.
The SME Exchange offers equally good scope for their stocks to expand because of support from Government in SME Markets and global tie-ups. The stocks that should be of interest would be in Automobile sector and Manufacturers of precision instruments and Ready Made Garments.
This is also on blog: http://seekingalpha.com/Yerram Raju/instablog.