Reviving the Indian economy

T. N. Ninan’s column on Sept. 8 in ‘Business Standard’ is worth a read. It is a wake-up call and I would say that it is too mild a wake-up call. Average real GDP growth in the last 7 years has been around 6.7% and in the previous years, it has been 8.4%. One simple explanation is that the global backdrop had changed from being favourable to unfavourable. Global backdrop matters.

That is a point that Ruchir Sharma had made in his comprehensive interview with CNBC-TV18 a while ago. Some extracts from his interview:

“…. let us just say that India is growing somewhere in the ballpark of 5–7 percent, depending on what you believe are the right numbers. That for me, is a fair outcome because if you look at the world today, at the peak of the boom, in the middle of the last decade, there were more than 70 countries in the world which were growing at a pace of more than 5 percent….

…. just 28 odd countries have been growing at a pace of more than 5 percent this decade. There has been a compression everywhere. There is not a single region in the world, as I said which is growing at the same pace because one of the main ways to grow richer is to export your way to prosperity. And look at export growth. This is especially in an environment of de-globalisation. Export growth has fallen everywhere across the world. Even India’s export growth, last decade during the boom years was 20–30 percent a year between 2003 and 2007. That export growth basically has flattened out this decade and it has happened in most places. So this is the era of de-globalisation, after the era of hyper globalisation that we got over the last 2–3 decades. And in this environment, if your export engine is down, it is very difficult to grow rapidly.”

That is fair. But, there are things that one can change and things one cannot. Are we doing enough with things that we can change? Or, even worse, are we compounding the problem?

Take the case of GST cess on luxury cars. The GST was supposed to make things simpler and not more complicated. It was supposed to help make the countrys’ tax system cess-free. Also, this frequent tinkering with tax rates is not healthy. This adds to the ‘Unease of doing business’.

With data for July on GST receipts available (even if provisional), there has been a credit of around Rupees 90,000 crores (900 billion or 15 billion USD, appx.) but there have been input credits claimed by GST payers for around 60,000 crores of Rupees (600 billion or 10 billion USD appx.) So, the government is scrutinising all those who claimed GST credit of more than one crore of rupees, according to the Economic Times. Interesting that this should appear in a Pakistani website too and look at the comments too by scrolling down. Then, there is another story in ‘Economic Times’ that cash deposits made even before November 8 ‘Note ban’ announcement are being investigated. There is no end to this ‘cat and mouse’ story between taxpayers, tax dodger and tax collectors. While much of this might well be needed with a very low tax/GDP ratio, the fact remains that tax incidence in India is still high.

Total tax rate (% of commercial profits). Source: World Bank, Doing Business Project (

India’s overall tax incidence on the commercial sector is above 60% and quite high notwithstanding the fact that Brazil and China have a higher tax incidence. In China, corporate sector is predominantly state-owned and they get several other advantages from the State that offset this tax incidence.

India promised to bring down corporate taxes and eliminate exemptions. Announcement was made in the budget for 2015–16. A diluted follow through happened in 2016–17 budget which restricted the lower taxes to companies with paid-up capital of less than Rupees 50.0 lakhs (INR 5 million). There was no follow-through in 2017–18 budget. That is it. The government promised to reduce the cost of hiring labour by bearing payroll taxes. But, the threshold was set too low to make a difference to hiring, especially at a time when businesses face multiple uncertainties and are battling a heavy debt load.

Bloomberg Quint organised a conversation between three Mumbai-based economy watchers. A summary is available here. There are no ‘ready-to-be-implemented’ answers from them. Deploying some confusing metaphors, Neelkanth Mishra says that a fog has descended on the house under construction that the Indian economy is. He calls for monetary and fiscal stimulus. Easier said than done. Monetary stimulus is unlikely to be effective nor is it likely to be forthcoming, given that inflation has begun to pick up and current account deficit, even with the economy as weak as it is, is 2.4% of GDP. It is not their fault. The law of human endeavour is that it is easier to screw up than to spruce up. Governments are not exempt from that law.

Much of the slowdown might be due to factors beyond the control of the government. Global slowdown is one. Commercial and industrial loans that turned bad now had their origins in the aftermath of the global crisis of 2008. But, it is the mess that UPA created that gave the opportunity for BJP to come to office. Hence, throwing up hands and pointing the finger at UPA do not help.

This government has made at least three mistakes, if not more: The single big mistake that this government made — even at the risk of oversimplifying — is to have accepted the fake fiscal deficit number of 4.5% given by the outgoing UPA II administration and reduce fiscal deficit to 4.1% and further lower from there. The oil windfall went towards legitimising UPA’s bogus fiscal arithmetic. That is what the mid-year economic appraisal of 2014–15 said:

The deficit target represented strongly pro-cyclical fiscal policy-consolidation when growth was below potential-which is ambitious at the best of times and also unusual amongst the major economies today.

Was there an application of mind on the path of fiscal consolidation?

Having done that, it beats me as to how they expected growth to revive — just because they were in office — and take care of the NPA problem. Second mistake was to wear that jacket because it led to the third. The third mistake was to buckle under the ‘Suit boot ki Sarkar’ jibe and turn anti-business.

A slower and gentler glide path to fiscal consolidation would have given the government resources to recapitalise banks that deserved recapitalisation, merge and jettison the rest. Government bond yields might have declined more slowly but the bond market would have been happier with intent and direction of progress, if not magnitude of fiscal consolidation. The boost to the economy thanks to the multiplier effect coming from a well-functioning credit market than the boost (if any) that the economy got from lower government bond yield in a dysfunctional credit market.

Direct tax system needs reforms — lower rates and fewer exemptions. The indirect tax reform — GST — has started off with some needless (inevitable in the views of some) complexity.

Further, some of its well-intentioned and sound initiatives have been thwarted by bureaucratic risk-aversion. Whether it is something as simple as ‘visa on arrival’ or something as important as crop insurance and liberalisation of inland waterways for foreign-owned ships, bureaucracy vastly diluted the government’s intent. The IIM Bill is yet to become law. Only the Lok Sabha has passed it. The initiative to declare 20 educational institutions as world-class institutions and grant them full autonomy is stillborn. The unified labour code has not left the Labour Ministry. Companies do not have a unique identification number — talked about for quite some time.

In a detailed column for Bloomberg Quint, Shankkar Aiyar suggests going back to the BJP Manifesto for 2014–15 to ‘recalibrate the bearings.’ That is a good suggestion.

I would add the following:

(1) Someone must pick up the courage to tell the PM that there is a serious problem with the economy. He must be made to understand that a series of moves by the government, judiciary and RBI combined have made the business environment more uncertain.

PM should address the nation on the economy without necessarily stating that the government had messed up but acknowledging the issues short-term while long-term is looking good because of serious structural reforms, etc. He should acknowledge corporate sector woes in the face of all the so-called structural reforms. He should admit that, under his government, the ‘unease of doing business’ has grown.

(2) Stop making the situation worse. Stop hurting by making negative comments: BJP President asking businesses to stop ‘wailing’ or the Minister for Transportation threatening to ‘bulldoze’ auto manufacturers are things that should stop.

(3) End obsession with revenue neutrality. It is easy to achieve it on paper but in practice, it chokes economic activity. One needs economic activity to achieve it in reality. Policy entrepreneurship is needed. Successful policymaking involves risk-taking and not risk aversion.

(4) Remove not just redundant laws but also other laws that are stifling. Removing dead and outdated and (inactive) laws is mostly symbolic.

(5) Take a hard look at the construction sector woes.​ Most important unskilled labour employer after agriculture. Get States to increase FSI and boost construction activity.

In terms of specific actions, I suggest the following:

(1) Risk mitigation in the form of a functioning crop insurance market
with the Government bearing the premiums payable to cover not only
yield, output but also realisation risks. (It is worth investing time
in the current crop insurance scheme)

(2) For small enterprises, working capital access — discounting,
factoring, etc. (This is RBI remit; they have to ‘browbeat’ corporate
customers to participate)

(3) Follow through on corporate tax rates reduction with elimination
of ad-hoc exemptions (25% tax rate for companies only with Rs.50
crores turnover or less; extend it to all companies; remove all ad-hoc

[For further suggestions, see here]

T. N. Ninan wrote that the Prime Minister deserved high marks for efforts but added that he was slipping on results. After three years, I am not sure it suffices. After five years, it certainly won’t.

In a recent weekly column for MINT, I wrote:

“The previous NDA government fell on the sword of “India shining”. Achche Din might prove to be this government’s Damocles sword if it does not wake up to its failure to add to its rather meagre economic successes such as the PMJDY.”

If they don’t wake up, it would be bad for India because the alternatives are worse. In the time since they were forced out of office, they have learnt nothing and forgotten nothing.