IFR India's path to sustainable growth 2016: Part 1
IFR: India is undergoing some radical, root-and-branch reform. How do you see the state of the Indian economy? Where is the Indian economy today and where is it going in the short to medium term? What are the key goals?
Soumya Kanti Ghosh, State Bank of India: I would like to step back a little. In 2013 if we had looked at the numbers we would have seen India had a current account deficit that was close to 5% of GDP. Today that number is trending below 1%. In 2012 the deficit was close to 5.7% of GDP, but today we are on a strong fiscal consolidation path and are hoping to get to 3.5% by the end of the year.
The government has taken many ambitious steps to tackle unemployment but it must be noted that India is a very young country, with a median age of 26, meaning the most important thing for improving growth prospects is creating employment.
The government has implemented several schemes, for example MUDRA (the Micro Units Development and Refinance Agency), a scheme for small artisans. Last year the banking sector advanced US$20bn in MUDRA loans, with another US$10bn this year. These loans are financing around 50m gross of units. So even if one unit only employs two people, that is still creating jobs for 100m people. That is important in a country that has 10m people entering the labour force every year.
We are also seeing more opportunities coming from the infrastructure sector, in power, roads, railways, mining and irrigation. In 2016, close to US$90bn has been awarded to various projects, mostly in these sectors. These things are going to pay off in the next couple of years, so we are on the right path.
IFR: At the same time there have been examples of sound and solid policy being undermined by politics. How clear is the government’s path, in terms of being able to execute its policies?
Bejoy Das Gupta, IIF: The political landscape is very positive. We’re in the third year of the Modi government. There have been criticisms that the government is moving too slowly on reforms, but its success on the GST should put that to bed. We have seen improvements coming in a series of small steps, be that encouraging FDI or improving governance. These are the building blocks of reform. Now it is all about execution and implementation.
We are trying to promote competition at the state level. As always, some states will be better at it than others, so there will be leaders and laggards, but that’s OK because states will learn from each other. So yes, the political climate for reform is good, there are still issues we need to tackle but we are creating the building blocks.
Marie Diron, Moody’s: Our rating for India is at Baa3, with a positive outlook. That positive outlook is premised on the series of small steps that was just mentioned. We think, taken together, they can create a more stable macroeconomic environment, meaning inflation of around 5%, rather than the 10%–12% we have seen in the past, as well as narrower fiscal and current account deficits.
In 2013 India was one of the ‘Fragile Five’ in the ‘Taper Tantrum’ episode, given the wide current account deficit. But with these changes we would see a more stable environment that would favour sustainable growth, a healthy fiscal balance and a reduction in the debt burden.
One constraint on the rating at the moment is the size of the debt burden, which is around 67% or 68% of GDP. For comparison, in our Baa3 rated sovereign universe the median debt level is around 30%–35% of GDP. So India’s debt burden is considerably higher.
That is partly related to low incomes that constrain revenue generation for the government. That puts a lot of pressure on the government’s budget and on spending. We expect these budget constraints and the debt burden to decline very slowly, largely through higher nominal GDP growth. There is limited room to reduce the deficit any other way.
The other constraint on the rating is the banking system, where there are a lot of bad assets. We think that cycle is probably coming to an end now that the bad assets have been acknowledged and are in the open. But it is not an easy problem to resolve and so it will continue to constrain banks’ ability to lend to the economy, meaning it will remain a contingent liability risk for the government. It could mean the government is required to make equity injections to support the banking system.
But overall the outlook is positive. That series of small steps does favour a more stable macroeconomic environment. Other emerging markets have their own problems, especially the impact of lower commodity prices, or reliance on external financing at a time of volatile global capital markets. India is a haven of stability in that environment. But it has some very specific domestic constraints in terms of its debt burden and its banking sector.
IFR: On the monetary side of this equation, we have a new Reserve Bank of India Governor and a Monetary Policy Committee. To what extent does this indicate a change in the monetary agenda? And what does the rate environment in India today tell us about perceptions around inflation targeting?
Avinash Persaud, Intelligence Capital: Mervyn King, when he was at the Bank of England, famously once said that the objective of monetary policy is to be boring – that an exciting or interesting monetary policy risked creating instability and unpredictability which can be very damaging.
That is a good way to think about some of the policies and reforms we have seen. It has been about creating more independence, an anchor of predictability that people can see. This strategy makes a lot of sense and I do not expect the new governor to change anything substantially.
I’m not entirely sure the design of inflation targeting makes any sense for India. The objective here is to promote simplicity, stability and independence. Inflation targeting makes a lot of sense in an advanced economy where there are very few supply shocks and inflation is simply a sign of demand in the economy that can be moderated with interest rates. But that is not the situation in India.
India has a tremendously volatile supply side that is changing dramatically. A lot of inflation has nothing to do with demand but is related to things like administrative or food issues. So I think the inflation target could come unstuck in the years ahead. It probably has more symbolic importance, representing independence and simplicity, as opposed to economic significance.
IFR: One doesn’t hear too much about India’s external trade and trade policies. But this is very important.
David Rasquinha, Export-Import Bank of India: The government is definitely concerned about exports but I think we are reading too much into the export angle. If you look at the numbers for the four years ending March 2015, exports were more or less flat at around US$300bn, plus or minus a couple of billion dollars.
That makes it look like there was no growth in exports, but in reality this disguises the 32% depreciation of the rupee. There was actually a very good export performance during those four years, but it was hidden by the impact of US dollar moves.
In 2016 we saw a drop from the US$310bn of the previous year to US$262bn, but if you disaggregate the composition of the exports, it was almost entirely refined petroleum products, with a corresponding drop on the import side. So it is really the result of a price effect. Exports have actually held up quite well.
In the context of falling global demand, the growth rate of exports as a ratio of global GDP was more than 200% in the 1990s, dropping to about 200% between 2001 and 2007. Since 2007 it’s been about 1.2 times. So growth has slowed, and exports have slowed even faster. We are trying to get a larger slice of a smaller pie, and given those circumstances I would argue exports have held up extraordinarily well.
Bejoy Das Gupta, IIF: This is a problem for everyone. Depressed external trade and exports are not going to change any time soon, as we can see from the difficulties we are having getting TPP done.
Countries need to look at both their external competitiveness and their domestic sources of demand. I hope this spurs even greater productivity growth for India, enhancing structural reforms that allow us to gain market share. If the export sector does well it will lift private investment.
Avinash Persaud, Intelligence Capital: One of India’s strengths in the current international economic malaise is it’s not dependent on exports because it has a vibrant domestic economy. Ultimately we want to be globally competitive and we want the pressures of global competition to encourage domestic productivity growth. But I think sometimes too much emphasis is placed on the economics.
I always remember being very depressed as an economist at G20 meetings. Two years ago a professor of public health at Harvard was showing some charts illustrating how well demographic trends explained growth in China, and the moderation to come. He predicted then that India would overtake China, based entirely on demographic factors. That is quite depressing as an economist, because we like to think it’s all about having good policy, which is why people have to employ us.
So the objective for a country like India, which has positive demographics, is to make sure that government doesn’t get in the way of natural growth. That should be a key priority, and the policies we are seeing are partly about making government interventions slimmer and more efficient, which will give the market more space to operate. That’s why this framework is working, because it’s partly about the government stepping back.
There will be times in other countries where those fundamental forces are not so favourable, meaning the government has to do something else. But for now in India it’s about the government actually not constraining growth in the way that it has done in the past.
Soumya Kanti Ghosh, State Bank of India: I completely agree with the point that was made about exports. In 2012 Indian exports were around US$320bn but by 2015 it had hardly moved; down by around 1%. That has been a global phenomenon that has lasted for four years, and if you look at a chart of the countries that are experiencing export slowdown, India’s -0.1% export growth rate is a much smaller problem than a lot of others have. It is also positive that around 60% of India’s exports today are South-South, which shows we have diversified our export markets.
Another thing that differentiates India today is its capital flows. This is also related to the campaigns which the government is running to encourage manufacturing employment. From October 2014 to June 2016 the total amount of FDI inflows into India were US$56bn. The current run rate is around 3.5 times every month, up from no more than 2.2 times before 2013. That is a great achievement.
Three years ago we had food inflation of around 11%, but today it is closer to 5.5%. India has structurally corrected and the inflation rate is close to 5%, perhaps even less. That is also a great achievement for the government’s food supply management, as well as the RBI’s management of inflation expectations.
And then there is the fiscal balance. Yes, India has a deficit of 66% of GDP if you include the central government and the states, but we have also generated a significant amount of fiscal infrastructure. Can you believe that in the past eight years e-filing in India has gone up 21 times? Around 50 million people are filing income taxes, and 92% of that is done online. Around US$20bn is also refunded online, which is around 2.5 times the level seen in 2010.
And yes, the banking sector has been going through some stress, but if you look at the data for the last 21 years, from 1994 until 2015, it suggests we are through the worst. Things were far worse between 1994 and 1999 and we came through that. I believe we are at the end of that cycle.
We also now have a bankruptcy resolution framework in place, meaning insolvency resolution disputes must be resolved within 270 days or the firm has to be liquidated.