What is the issue?
The economic indicators of the recent period call for shifts in policy response to boost the economy.
What do the economic indicators show?
- Growth - The recently released quarterly estimates showed lower-than-expected July-September growth number for GDP.
- With this, most analysts have lowered their full-year growth forecasts, with some projecting second-half growth at under 7%.
- The encouraging sign is a pick-up in investment which was depressed so far.
- But even this is overshadowed by declining consumer spending.
- The Reserve Bank recognises this, but continues to project full-year growth at 7.4%.
- Even that implies a second-half growth rate of only 7.2% which is no better than the unsatisfactory trend rate from 2014.
- Inflation - Inflation has dipped more sharply than expected.
- The current rate has been below RBI's target of 4% for the past three months.
- Agricultural price inflation is lower still.
- The quarterly GDP numbers record a sharp deterioration in terms of trade for agriculture.
- This explains farmers' distress in many states, even as depressed rural wages have contributed to poor rural demand.
- Fiscal deficit - The full year’s fiscal deficit target was crossed by October-end (in seven months).
- The government insists that it will stay within the full-year target of 3.3% of GDP (down from 3.5% in the last two years).
- But there is the growing possibility that it will be able to do so only by withholding payments that are due on various counts.
Is the response appropriate?
- Government - The first two indicators (economic growth and inflation) point to the need for an economic stimulus.
- This is especially needed when demand growth is slowing.
- But the policy response is far from it and the government continues to insist on sticking to fiscal contraction.
- Banks - RBI on its part argues that it needs more time to understand price trends, and therefore has not lowered its policy rate of 6.5%.
- Loan rates in the market are too high. Most banks have a lending rate of over 9% for their best customers.
- E.g. HDFC’s home loan rates range from 8.8% to 9.5%, at a time when house prices are falling. Naturally, housing demand is low.
- Small and medium enterprises borrow at much higher rates of interest.
- The effective borrowing rate for majority of companies is more than their return on capital employed which make it “unaffordable”.
What should be done?
- Both the government and the RBI should re-examine their positions.
- Interest rates need to drop if there is to be broad-based economic revival.
- The fiscal stance should be less rigid as inflation is below target and the danger of runaway oil prices has also passed.
- There is thus a legitimate case for government to allow deficit level to inch up to a more realistic 3.5% of GDP, the same level as in the last two years.
- That will be a neutral, not expansionary, stance, easily justified in the current situation, and realistic.
- Besides this, there has to be a policy package to shore up agricultural prices, especially for crops with greater price volatility.
- The target to double agricultural exports is a start, but more needs to be done swiftly.
Source: Business Standard
