An unexceptional economic performance
At the end of May the Central Statistics Office (CSO) released much-awaited estimates of national income for the final quarter of the 2017-18 financial year. The timing coincided with the completion of four years in office of the National Democratic Alliance (NDA) government. In a propaganda blitz, surging through the Net, the government embraced the GDP figures to declare that it has successfully “accelerated growth”. However, while this holds true for the past few quarters it does not when the past four years are taken into the reckoning. The facts are that the annual rate of growth since 2014 has first risen and then declined. By 2017-18 growth at 6.6% was less than the 6.9% it was in the final year of the second United Progressive Alliance (UPA) government.
Along which horizon?
So how you see the growth performance of the economy under Prime Minister Narendra Modi depends on the horizon chosen. When you take a view longer, you see that on average annual GDP growth in these years is, thus far, no higher than what it was earlier. Actually, by a certain calculation, it is exactly the same but such precision is hardly necessary to conclude that the NDA has not done much better than its predecessor as far as the growth of the economy is concerned. There are of course other aspects of an economy that should legitimately be of our concern but this government has generally prioritised production as reflected in its attention to the ‘ease of doing business’ and its flagship programme ‘Make in India’. It is indeed right that there should be focus on production, as incomes are low in India and the expansion of employment is a function of the growth of output. However, growth has not taken off under this government in a way that was anticipated during the election campaign of 2014. The accelerating growth in the most recent quarters may be placed in perspective as follows: the economy is accelerating along a lower growth path. Further, and it needs recognition, that the Modi government had inherited a strongly accelerating economy.
The reason for the lack of success in accelerating growth may be understood by a claim regarding the performance of the government by a leading member of the Prime Minister’s Economic Advisory Council made soon after the CSO’s announcement. He claimed that the four-year period just past had seen more reforms than ever in India’s history, citing the demonetisation and GST as instances. Even without accepting less charitable descriptions of demonetisation, such as that it shook confidence in the currency, it is questionable whether any of the changes since 2014 compare with the reforms of 1991. The latter altered the policy regime in a way that the recent changes have not. Anyway, the question remains as to why the economy has not responded with alacrity to reforms that were supposedly so significant. Some factors may be identified, all of which point to the role of demand. The reforms since 2014 have mostly focussed on the supply side of the economy.
The first factor alluded to above is macroeconomic policy. We have seen four years of contractionary macroeconomic policy. The only question is whether the government is unable to see this or that it has stubbornly persisted with what it believes to be a virtue. Let us take the fiscal and monetary policy stances in turn. As part of a tacit all-party agreement, the fiscal deficit has been lowered over the past nine years. Fiscal consolidation, as this drive is tendentiously referred to, lowers aggregate demand. Its votaries claim that ‘crowding out’ will work in reverse to boost private investment, thus restoring the original position. This has not happened yet, and a decade is a long enough time to have allowed it to play out if it is inevitable. There is a way of dealing with the demand-contracting effects of fiscal consolidation. That is, to bring about expenditure switching in the government budget, whereby expenditures with high multiplier effects are privileged over those with a lower potential on this score. For instance, the government can change the composition of capital outlay and subsidies, expanding the former at the expense of the latter. The government has not done it, instead sticking to the extant subsidy regime, showing itself to be no less political from its predecessor in this regard.
Two points may be made about the Modi government’s budgetary strategy. First, over the five budgets it has presented, it has maintained the share of capital expenditure but this has occurred alongside a declining total expenditure, perhaps motivated by the pursuit of ‘less government’. The net effect of these is a slightly lower budgetary capital outlay as a share of GDP. Second, the rate of growth of ‘government final consumption expenditure’ has been steadily increased. The growth implications of such a strategy are obvious.
What about monetary policy? Here we have been observing a stance not just contractionary but one bordering on the reckless. Though producer price inflation has continued its downward trend since 2014, the policy rate of the Reserve Bank of India has not kept pace, raising the real cost of borrowing. While there has been self-congratulation on the part of government that it engineered a shift to inflation targeting as the alpha and the omega of monetary policy in India, there is insufficient acknowledgement that when faced with food price inflation the mechanism works by sacrificing output. The latter feature is either ignored, or, worse still, actually rationalised as optimal. The irony is that while India finally has ‘inflation targeting’ it does not yet have an effective anti-inflationary policy, which would be to ensure food supply at steady price.
So, unimaginative conduct of macroeconomic policy has resulted in slowing demand growth. The second factor contributing to slack demand in the economy has been agricultural performance. In the first two years of this NDA government, the weather cycle wreaked havoc by reducing agricultural output in 2014-15 and barely increasing it in 2015-16. The growth of agricultural incomes could not but have been affected by this. In 2016-17, however, agricultural output rebounded, posting very strong growth. But now demonetisation, by disrupting the supply chain, is likely to have not just stymied the growth of agricultural incomes but actually lowered them. The growth of manufacturing reflects this. The CSO’s estimates show that it declined considerably in 2016-17, and by 2017-18 was barely half of what it was in the year before the demonetisation. ‘Make in India’, which had targeted manufacturing, has not had much success despite any progress made on the ease of doing business.
Despite the advantages
What about the role of the external environment in domestic growth? Till recently, it has mostly been benign. For three years running from 2014-15 the price of oil fell continuously. The windfall could have been used to step up India’s creaking public infrastructure to address hardship and boost demand. But it appears to have been used up expanding government consumption expenditure. Another favourable development, which unlike the oil price decline continues, is that the world economy is growing steadily for the first time since the global economic crisis set off in 2007-08. Surprisingly, however, India’s export performance since 2014 is far less impressive than it was in the five years following the crisis. The balance of payments is being shored up by capital inflow, much of it short-term. India’s high foreign reserves, advertised by the Prime Minister at Davos, reflect this aspect rather than dollars earned. This is costly for growth. It keeps interest rates high and demand shackled.
Pulapre Balakrishnan is Professor of Ashoka University and Senior Fellow of IIM, Kozhikode