The Hindu Business Line : An economy under strain

The economy has perhaps entered a stage where the imperatives of rapid growth and those of a poor, highly subsidised set-up are likely to clash. This forms the crux of the challenges to be faced by the Government.

Ranabir Ray Choudhury

Is the national economy under some sort of strain despite the good overall GDP growth figures? This is the thought that passes through one’s mind while going through the mid-year economic review, which has just been tabled in the Lok Sabha.

As far as the growth performance is concerned, the going is good. In fact, the first highlight of the review is that an impressive growth rate of 9.1 per cent was recorded during the first half of 2007-2008 compared to 9.4 per cent in 2006-007.

It is, of course, another matter that the expected growth target for the full year has been put at 8.5 per cent, which means that the expected growth rate for the second half of the year will be around 7.9 per cent. The question is: Why this expected deceleration?

Slackening growth scenario

There is no direct attribution of possible reasons for this expected slowdown, but the review does point to a “slackening” in the manufacturing growth scenario. No specific reasons have been cited for this.

Theoretically, the slowdown can result from supply constraints or it could be the consequence of demand-induced compulsions.

Indeed, for those manufacturing sectors which rely mainly on imported inputs, the going should have become easier in view of the strengthening rupee.

The review does not drop any hint in this direction, but it does suggest that a slowdown in consumer and export demand could possibly be factors behind the slowdown. It says that the evidence is sketchy and that “it is difficult to separate the effect of broader factors such as domestic demand shifts and increased internal competition”.

No doubt the “domestic demand-shift” argument would be an interesting possibility, but if it was what would be the cause behind the shifts, if any?

Is the preference of domestic demand shifting from internally-produced goods to imported items which, for the moment at least, have become cheaper because of a rising rupee?

The point about “increased internal competition” affecting manufacturing activity needs to be probed in detail because, normally, greater competition should lead to price moderation, which in turn should actually result in greater sectoral activity instead of the other way round.

Rising farm prices

One element of the strain under which the national economy is currently labouring is rising farm-product prices. Why is this happening? In fact, the review has noted that the inflation rate based on wholesale prices has declined to 3.01 per cent at the end of November compared to 5.4 per cent in the corresponding period of the previous year. If, despite this, farm prices are on the higher side, does it indicate a supply-induced reason? If so, the remedy would lie in increasing production which, unfortunately, despite decades of pursuing strategic irrigation-development policies, is still determined by the weather. While this is not a flattering comment to make on Indian economic governance over the years, the point also needs to be made that the role of agriculture in the national economy is slowly, but surely, being reduced, one clear fallout of would be the diminishing influence of the weather on the GDP growth rate.

Rising rupee and exports

Some would like to see the rising rupee as a source of economic strain on the economy, a view that can perhaps be supported by citing the attendant problems of the phenomenon. But, then, it is perhaps axiomatic that a strong economy should ordinarily have a strong currency, the inference being that if the Indian economy is aiming at becoming an even more important player in the international marketplace, a strong rupee is precisely what should be expected. The attendant problems flowing from a stronger currency should then be seen as mere development challenges, which should be overcome with time.

One of these “challenges” is the effect on exports of a stronger rupee, which has made Indian products costlier in the world market. Perhaps, the most encouraging bit of news to emanate from the mid-term review is that exports have performed satisfactorily despite the earlier forecasts that the 2007-2008 target of $160 billion would not be attained. This, however, does not automatically mean that the goal is now within reach (some feel that the setting of it at so high a level was being unrealistic in the first place). But what the post-rupee rise export performance does imply is that Indian goods are still selling despite becoming costlier.

Admittedly, not all export-sectors are doing well (e.g. textiles), which is to be expected given the variety of competition regimes prevailing in the world market in different product-areas. The review has done well to focus on increased competition as the principal method by which to tackle the problem of higher product-prices instead of harping on the old theme of increasing subsidy, which has actually seriously harmed Indian economic interests in the longer run.

Inflow of funds

Another point of strain for the Indian economy — mentioned in the mid-term review — is the huge inflow of foreign funds, which is not only leading to an upward pressure on the rupee’s value but also on the domestic price-level. Very simply, this source of tension can be effectively tackled by halting the inflow. But, of course, it would be foolish to plump for such a “remedy” because what it will basically do is to throw out the baby along with the bathwater.

The funds inflow reflects nothing but the growing stature of the national economy abroad; the moment the inflow is halted by policy-measures, that stature will be dented — and that cannot be good for the economy. So the only way to handle the consequences of the inflow is to pursue the policy of a tightrope-walk, the sole objective being to negotiate successfully the passage towards a higher growth status for the economy without falling victim to the pressing pitfalls.

Perhaps, the Indian economy has now entered a stage where the imperatives of rapid growth and those of a poor, highly subsidised set-up are likely to clash at every step. This forms the crux of the challenges that have to be faced by the Government of the day if effective, “inclusive” progress is to be made towards improving the standard of life of the average Indian citizen. As it is, the job is an immensely difficult one; giving unbridled importance to political compulsions at this juncture could make it even more so.