The Hindu Business Line : The wages of growth

The 6 per cent-plus rise in the rate of inflation is no doubt worrisome for the economic managers of the country, not least because of the political fallout in a period preceding a clutch of State Assembly elections. Indeed, some may even make the point that, more than the economic ramifications of the price-rise, it is the political implications that are sought to be magnified by interested parties with definite political motives.

The point of this write-up is to focus on the fact that the justified concern about the rising inflation rate should be tempered by the impressive growth figures for the economy as a whole, the suggested policy option being to prevent the economy from any unwarranted overheating — an immensely difficult task by itself — which could harm future growth prospects.

On a high

The Central Statistical Organisation has estimated that GDP growth for 2006-2007 would be around 9.2 per cent which, if it comes to pass, will be the highest growth rate in nearly two decades. Only once, in 1988-89, did the economy grow faster (at 10.1 per cent). But, of course, as later events have shown, this performance was nothing but a flash in the pan, being determined circumstantially rather than in real terms based on deep-rooted, structural reasons.

More important, the ongoing performance is not a flash in the pan. For, among other things, the satisfactory average growth rates over the past few years have brought the Indian economy to a point where it can be favourably compared with the big-league performers — certainly in Asia if not in the world.

According to reports, the latest growth rates could set India "to break into the 10 largest economies even if the nominal exchange rates are used to measure GDP in dollars." In terms of purchasing power parity, the country is "the fourth largest economy and could overtake Japan in a year to become the No. 3 behind the US and China." Even if the actual growth rate for the year slips to 5.5 per cent, the economy would be Asia's third biggest `overtaking South Korea'.

Reform prods

Clearly, there can no longer be any doubt that the Indian economy has been placed in a growth trajectory, which is self-sustaining, and needs only reform prods to keep growing. This fact has been recognised the world over, the latest evidence of which is the Bush Administration's open admission (through the USAID Administrator, Mr Randall Tobias) that, given its consistent impressive GDP growth rates, India has today become a donor country in the international aid world in place of the historically recipient-economy it has always been since 1947.

An immediate consequence of this has been the reduction by more than a third in the US aid commitment for the following year (to just $81 million) compared to the present year, the money being used (as reported) "for the eventual orderly closeout of the US Agency for International Development's programme in India."

One remembers the 2003 BRICs report (focusing on Brazil, Russia, India and China), the findings of which have been updated recently, the new message being that the growth path identified earlier for the economies concerned has become only more pronounced with the passage of time. In the new paper, Goldman Sachs has said that the BRIC economies' share of world growth would rise from 20 per cent in 2003 to more than 40 per cent in 2025; and that their total weight in the world economy would rise from around 10 per cent in 2004 to double the level in 2025.

The report also says that between 2005 and 2015, more than 800 million people in these countries will have crossed the annual income level of $3,000 (that is, roughly Rs 1,35,000 at the exchange rate of Rs 46 to a dollar).

Improved potential

Among other things, the authors of the new report found that since 2003 there has been a "structural increase" in India's potential growth to nearly 8 per cent from 5-6 per cent in the previous two decades and that, importantly, "productivity growth has been the key driver behind the jump in GDP growth, contributing to nearly half of overall growth since 2003 compared with a contribution of roughly one-quarter in the 1980s and 1990s."

One of the authors of the 2003 report (not associated with the subsequent report) has been quoted as saying that "in some areas of corporate and structural reform, the country has used the current upswing to move at a faster rate than when the first study was done in 2003."

The report says that the new projections will have serious demand implications for the economy, which is precisely what the evolving situation is today, leading to signs of overheating — a first indicator of which is the rapidly rising rate of inflation. The all-important question however is whether the `overheating' that is already a phenomenon is consistent with the growth-spurt marking the economy's performance or whether it is in excess of the level that one would reckon to be permissible vis-a-vis the current buoyancy of the economy.

Complex picture

To say the very least, the picture is overly complex, not the least complicating part being the unsatisfactory rate of farm growth (forecast to grow at just 2.7 per cent for the current year). If the present rising-inflation phase is supply-driven, then attaining a higher farm growth rate (the target is four per cent) would certainly add to the supply of farm foods, resulting in an easing of the current supply-stringency and a consequent reduction in the price-pressure.

However, higher farm production would also lead to greater income for farmers which would add to demand for other products. The final effect on prices would depend on the elasticity of supply for these other products, not to speak of the liquidity overhang (money supply, etc) and its utilisation for relatively `non-productive' purposes (such as financing real-estate, among other things).

Reportedly, the Finance Ministry does not yet consider the economic situation to be over-heated, the inference being that the clampdown measures (in the Union Budget) will be tempered by the policy of not overly hurting the innate growth impulses of the economy. The RBI will of course do its bit in sucking money out of the system (as it has already begun doing) but circumspectly, as is to be expected of it.

All said and done, it really is a tightrope walk for the economic-policy technicians, demanding a high level of circumspection as well as reform-initiative — a job made even more difficult by politicians baying for the blood of the government of the day in order to enhance their chances of getting into the driver's seat at the next hustings.