Into the quagmire

India’s sinking economy is likely to have troubling consequences on both a domestic and global level, warns Jayanta Roy Chowdhury

In what could have ripple effects throughout the globe, India’s economy – toasted for the last two decades as one of the world’s fastest-growing – has started slowing to a pachydermic gait on the back of shrinking factory production, growing joblessness and failing shadow banks.

India’s much vaunted GDP growth story decelerated to just 4.5 per cent in the July-September 2019 quarter, the slowest growth rate in six years. For the financial year 2019-2020, under the Narendra Modi Government which came to power on the slogan ‘Sabka Saath, Sabka Vikas’ (with everyone, with growth for everyone), India is forecast to grow at just a shade over 5 per cent, compared to the 7.5 per cent GDP growth averaged during the previous government, run by the Congress’s Dr Manmohan Singh.

The Asian giant’s factory production has been shrinking for the past three consecutive months, with car inventories piling up and consumer sentiments at an all-time low. India’s exports, too, have started dwindling in the wake of trade wars and a bruising dispute with its largest trade partner, the US.

At the same time, India has started making a policy shift towards autarky by rejecting membership of the world’s largest trading bloc,the Regional Comprehensive Economic Partnership, which its neighbours – China, Korea, Japan, Australia, New Zealand and the ASEAN nations – have mooted, for fear that the pact may see competition leading to a further deterioration of its economy.

In some ways, India’s economy now resembles the old socialist set-up which existeduntil 1991, when India suddenly opened up and became the democratic world’s poster boy for economic success, posting double digit industrial growth and consistently high GDP growth rates.

Twentieth century India suffered from an abysmally low growth rate – an average of 3.5 per cent annually – which some economists despairingly dubbed ‘the Hindu rate of growth’, barely higher than its population growth rate. It was also deeply suspicious of foreign trade and investments, refusing to join ASEAN, a successful economic grouping of its neighbours in South East Asia, arguing for duty walls at every meeting of the World Trade Organisation,and enacting laws to curb foreign investment.

Analysts trace the quagmire in which the Indian economy has landed itself back to November 2016, when a sudden, surprise demonetisation announcement by the Modi Government sucked out 86 per cent of the country’s currency by value, leading to a collapse of the informal sector which accounts for about half of India’s $2.96 trillion economy.

‘We basically shot ourselves in the foot with that one decision,’ said Prof. Arun Kumar, Malcolm S. Adiseshiah Chair at the Institute of Social Sciences, New Delhi. ‘India’s economy was doing fine, even after the global economic crisis of 2008, mainly on account of its domestic demand. But with cash sucked out of the system, we started feeling the chill as demand dried up and the informal sector, which mostly used cash, went bust.’

A badly constructed and complex new nationwide Goods & Services Tax, introduced a few months later and widely hailed at the time as a major reform, compounded the problem for small businesses. They are still struggling to cope with the frequent changes the new tax regime is being subjected to, in a bid to make it a success story.

Instead of a flat vattable single rate GST, as pertains in most countries, India introduced multiple rates, ranging from 5 per cent to over 28 per cent. Very often raw materials were taxed at rates higher than the finished product, pushing up business costs. Instead of reaping more revenues, as the tax was projected to, since its introduction it has been underperforming, creating gaping holes in the budgets of both the federal and state governments.

‘The complexity of the tax structure, along with the high compliance burden on small businesses, turned a perfectly good idea on its head,’ rues Sumit Dutt Majumder, former Chairman of India’s Central Board of Excise and Customs and the author of a bestselling book on GST.

In the ensuing slowdown, which had its roots in these twin decisions, factories have shut down, companies have begun delaying loan payments and workers have been laid off in their hundreds of thousands. According to the Centre for Monitoring Indian Economy, India’s unemployment rate has shot up from a low 3.3 per cent in July 2017 to 7.5 per cent in December 2019, with urban employment at an unsustainable 9.1 per cent.

Tellingly, electricity generation in October 2019 fell by a whopping 13 per cent, compared to the same month last year. Several coal-fired power plants closeddue to lack of demand.

‘This is by far the most telling of the tell-tale signs of the recession in demand which we are facing,’ said Prof. Kumar.

To make matters worse, India’s shadow banks, which are not allowed to take time or savings deposits but can lend or invest money, have started failing. The largest shadow lender – or non-banking finance company, as they are called in India – Infrastructure Leasing & Financial Services Ltd, which was promoted by the government but privately run, failed to pay back loans last year, leading to huge panic selling of stocks in other shadow lenders. IL&FS had made investments in infrastructure and realty projects which simply went bust as India’s slowdown deepened.

Matters became worse with several other shadow lenders going bust this year. Analysts including India’s former Chief Economic Advisor, the well-known economist Arvind Subramanian, have warned that this has led to a ‘twin balance sheet problem’, where not only the balance sheets of these quasi-banks and realty and infrastructure firms stand at risk, but also those of the regular banks which had invested in shadow banks. Also at risk are common citizens who had lodged funds with these banks.

To top this, India now faces a fresh threat from a bout of trade protectionism that is affecting the world. The World Bank estimates that deepening of global trade wars could cost the country up to 1 per cent of its GDP. Foreign trade now accounts for more than 44 per cent of India’s GDP and, unlike in earlier eras, when India was largely unaffected by global economic cataclysms, it now ‘catches a cold everytime the bourses in New York or London sneeze’.

Alarmingly, in a paper he is writing for Harvard University, Subramanian uses the phrase: ‘Clearly this is not an ordinary slowdown. It is India’s Great Slowdown, where the economy is headed for the intensive care unit.’

For Prof. Biswajit Dhar of the Jawaharlal Nehru University, the concern is that India’s problem could also become the world’s. In an era of slowdown and recessions, both the developed economies of the West and the resource based economies of the Middle East and Australia have been looking at countries like India and China, with their huge domestic markets, as ideal trade destinations. However, ‘as the slowdown deepens India will cut down imports, partly to save money, partly because it is building its own tariff walls to protect its domestic industry and because it is suspicious of global headwinds. This will hurt both India and the world,’ warns Prof. Dhar.

In an imitation of US President Franklin D Roosevelt’s ‘New Deal’ of the 1930s,economists have been advocating spending large sums of state money on both physical and social infrastructure in an effort to beat the slowdown. They have also urged major structural reforms in the labour, land and capital markets, which could make business truly easier to conduct in the world’s second most populous country, instead of just being a slogan to attract investment.

Unfortunately for India, however, as the economic crisis unfolds and deepens, its policy czars seem too busy dousing other fires, while being bereft of a clear roadmap to tackle the country’s deepening economic quagmire.

 Jayanta Roy Chowdhury is a senior Indian journalist


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