With the Indian economy and markets, if you are too pessimistic, you will miss an opportunity; we saw this starting from the middle of 2022 until now, when growth has been strong across the board and stocks shot up in unison. However, once the cycle has turned, if you start to extrapolate, believing in new policies, ministerial claims and selective positive anecdotes, all amplified by social media, you will be frustrated.
In the absence of structural changes, the pendulum of growth starts to swing back to normal and over to the other side. This is perhaps what is happening now which frustrates die-hard optimists. We saw a glimpse of this in Washington last month when Union finance minister Nirmala Sitharaman railed, “Where economic activities are good and robust and dynamic, money flows. That is the normal textbook assumption. I want to ask, where are the investable funds? Where are the investors? What are they looking at? What’s holding them back?”
The plain answer is, the same factors that held them back 10 or 15 years ago. The only exception was the undesirable infrastructure and real estate boom between 2006-2012 which was ridden with corruption and crony capitalism.
India's economy has long been characterised by modest growth cycles, rarely experiencing recession, but also failing to achieve sustainable acceleration. The cycles are driven by clearly identifiable macroeconomic factors like domestic inflation, interest rates, poor growth in manufacturing and agriculture and the health of US and European economies (which influences exports).
Most importantly, irrespective of household income levels or corporate earnings, growth in government revenues is always in double digits. Such high extraction is needed to pay government salaries, national security and interest on government debt. Very little is left over for investment in education, healthcare and urban transportation for the underprivileged. Worse, a lot of what is spent is often wasteful due to high corruption at the state and local levels.
This overarching macroeconomic picture could not have supported even a modest gross domestic product (GDP) growth, forget about the current 6%-7%, but for two bright spots. One, net services exports of US$161bn (billion) last year and two, the deluge of foreign remittances from non-resident Indians (NRIs) which was about US$125bn last year.
Without these two contributions, the rupee would have been much weaker and inflation and interest rates higher, leading to very poor growth rates. Collectively, these macro factors create the big picture that has remained largely unchanged over decades, yielding positive as well as negative outcomes.
On the positive side, if these factors remain stable, steady growth that is far higher than many major economies can be assumed, guaranteeing higher prosperity for the upper middle class and the rich, who corner the bulk of benefits of such growth.
Another positive is that the private sector is at the vanguard of this growth. Regardless of which political party is in power, there has been no foolhardy expansion of the public sector. The impression that only two or three large business houses are cornering all business opportunities is not entirely correct.
The big story of India’s economy over the past three decades is the extraordinary flowering of entrepreneurship across consumer technology, engineering, pharmaceuticals, energy and even finance; this is partly due to minimal new interference by the State. Imagine what more could have been achieved, with improved agricultural productivity and reduced manufacturing, logistics and power costs and upgraded labour skills, especially in backward areas.
The downside to the moderate growth story is that it will not lead to a radical transformation, only incremental growth. Don’t expect a deluge of foreign direct investment or a surge in domestic capital expenditure. Growth would trickle down, keeping the teeming masses hopeful of a better future, but will not be adequate to improve their savings or consumption.
It is worth noting that huge stress has built up in unsecured lending, including microfinance, despite the much-vaunted 7% GDP growth. Income levels of the majority have not increased commensurately and so consumption is being funded by debt. Clearly, there is a disparity between headline growth figures that delude us and the actual quality of that growth. When the economy was in serious trouble due to the double blow of demonetisation and goods and services tax (GST), the government’s knee-jerk response was a drastic tax cut in corporate tax from 30% to 22% in October 2019. Tax rates were set even lower, at 15% for new businesses. However, private capital investment still remained weak.
Three years later, in the post-COVID period, the government announced a stunning capital expenditure (capex) of Rs10 lakh crore in the budget of FY23-24, upping it to Rs11 lakh crore the next year. The Central government’s capex as a percentage of total expenditure hit an extraordinary 28% in FY23-24 from just 14% in FY13-14. And yet, this failed to incentivise the private sector to ramp up investments significantly.
Right now, private consumption and capex, are already weak and declining, despite strong balance sheets. If the government really wants to know why this is so, it will have to get the industry to talk frankly and implement many radical steps. This hardly seems probable. More likely, the economy would continue on its natural course of modest growth, as it is supposed to.
(This article first appeared in Business Standard newspaper)
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