People's Democracy

Economic Policy Paralysis

Chandershekhar

THE BJP-led NDA government is displaying clear signs of paralysis on the economic policy front. The first sign of this crisis, was the accumulation of huge food stocks to the tune of 65 million tonnes in the midst of evidence of large-scale unemployment, poverty and even deaths due to starvation. Arguments that the foodstocks could be used for food-for-work programmes were ignored for a long time, creating a situation where the highest court in the country had to admonish the government for failing to feed its people. Even then, the centre sought to shift the blame onto the state governments, and half-heartedly launched a programme of allocating food-for-work which is so tied down by conditions that it is unlikely to take off in the foreseeable future.

The more recent sign of paralysis is the evidence that this reticence to use the available food and foreign reserves to launch an expenditure programme that can create employment and generate demand, has resulted in a sharp deceleration of growth in the economy. Even when confronted with this evidence, the only real policy that the government can offer is a promise to accelerate the dis-investment process and keep the deficit in control, ignoring the fact that the reform package that such policies are part of, is what is responsible for the economic slowdown.

ECONOMIC SLOWDOWN

Consider the evidence. The Index of Industrial Production, the lead indicator of the growth performance of the Indian economy, has signalled a major slump. Growth of the Index in the month of August 2001 was just 1.8 per cent, relative to the corresponding month of the previous year, as compared with 5.0 per cent in August 2000. This is no sudden downturn. The figure for the five month period April-August 2001, point to a rate of growth of just 2.2 per cent relative the corresponding period of the previous year, as compared with 5.6 per cent for the April-August period of 2000.

Thus even before the September 11 terrorist attacks in New York and Washington, India’s economy appears to have begun experiencing a deceleration in growth. This process it now appears has been underway for sometime. According to the quick estimates of quarterly GDP growth released by the CSO, the Indian economy had settled at a 6.0 per cent growth rate during the four quarters beginning July-September 2000, or over the year July 2000 to August 2001. However, over the subsequent two quarters, growth slipped to 5 and 3.8 per cent respectively, and stood at 4.4 per cent during the first quarter (April-June) of 2001-02. This shift to a lower growth rate of between 4 and 5 per cent over three quarters, is a clear sign of deceleration.

BASIC CAUSE DECLINE IN INVESTMENT

What is noteworthy is this slide in the pace of growth, has essentially been the result of a deceleration in the growth of the commodity producing sectors: agriculture and manufacturing. Ever since the third quarter of 1999-2000 the agricultural sector appears to be performing extremely poorly, with growth rates of agricultural GDP being negative in three of the subsequent six quarters, and less than one per cent in two.

In manufacturing on the other hand, starting from the 7 per cent plus level that GDP growth touched in the second half of 1999-2000, growth fell to six per cent during the second and third quarters of 2000-01 and then slumped to 3.5 and 2.3 per cent during the next two quarters.

What this suggests is that starved of adequate investments for more than a decade now, agricultural growth has reached saturation levels, despite signs of some diversification in terms of crops grown. Behind the investment slowdown is the stagnation, and even decline, in real public investment in the rural sector in general, and agriculture in particular. Given the observed complementarity between public and private investment in agriculture, with the former known to drive the latter, the spur to private investment provided by high and rising support prices for a number of crops has been inadequate to neutralise the basic tendency towards sluggish capital formation. In the event, despite the fact that at a generalised, all-India level, monsoons have been normal or munificent in India for sometime now, agricultural growth has remained sluggish.

WHY DECLIE IN MANUFACTURING?

The story in the manufacturing sector is, however, substantially different. Manufacturing growth has declined largely because of sluggish demand conditions. There are two ways in which demand for domestically produced manufactured goods can falter. First, the overall growth in the domestic market could slow down, reducing the demand for manufactures. Second, the share of domestic producers in a market of a given size can decline because of competition from international producers.

The first of these factors did play a role in braking industrial growth, once the post-liberalisation surge in demand for import-intensive manufactures had been satiated. Not only has the second half of the 1990s been characterised by some measure of success in the government’s effort to reduce the fiscal deficit in the central budget, but this has occurred at a time when the tax-GDP ratio has fallen by close to 2 percentage points. The squeeze in expenditures this reflects would have substantially dampened the fiscal stimulus that was the prime driver of industrial demand and growth during the 1980s. With the effects of the sluggishness in the growth of agricultural incomes noted above adding to this, it is to be expected that the growth of the home market would have been constrained. That is, industrial growth is constrained from the demand side.

Was the impact of this on domestic producers of manufactures aggravated by competition from abroad in the aftermath of liberalisation? Till recently the evidence of displacement of domestic production by imports was anecdotal at best. At the aggregate level, barring the high growth years 1994-95, 1995-96 and 1996-97, when India’s import bill rose faster than her GDP, the decade of the 1990s was characterised by relatively small increases and even declines in the value of non-oil imports in general and non-oil, manufactured imports in particular. Thus, non-oil import values rose by just 3.2 per cent over 1999-2000 and fell by 8.5 per cent during 2000-01. The sluggishness in non-oil import values has been consistently used by the government to dismiss fears of an import surge in the wake of liberalisation. But a closer look indicates that aggregate, non-oil import values grew slowly not because of slow growth in the quantum of imports, but because the effects of an increase in quantities imported on the size of India’s import bill was neutralised by a fall in the unit values or prices of imports. In fact, the statistical evidence that India has been the destination for cheaper imports after liberalisation, only corroborates the, often alarmist, "grass roots" view, that the Indian market is flooded with cheap imports of a range of commodities from countries like China.

IMPORT BILL RISES

What is more disconcerting is the evidence that the current deceleration in growth has been accompanied by an increase in the non-oil import bill. Provisional trade statistics indicate that during the second quarter of this financial year (June-August), non-oil imports rose by 16 per cent when compared with the corresponding period of the previous year, resulting in a 6.8 per cent rise in India’s overall import bill, despite an 11 per cent fall in oil imports.

Part of this rise may have been due to an increase in the imports of gold, since the poor performance of financial markets has rendered investments in gold attractive. Though commodity-wise import figures for the second quarter are not yet available, it is reported that the first quarter of this year (April-June) saw a 33.5 per cent increase in the value of gold imports from $1.2 billion to $1.6 billion. With gold imports accounting for about 20 per cent of all non-oil imports, such increases are bound to affect the overall import bill quite substantially.

But to the extent that this factor alone does not explain recent increases in non-oil imports, and given the evidence of a decline in the unit values of many non-oil product imports, the role of import competition in explaining the deceleration in manufacturing growth could be significant.

SAVED BY SERVICE SECTOR

With agricultural and industrial growth dampened by these factors, aggregate GDP growth has managed to touch even the levels they have in recent quarters only because of the buoyancy of the services sectors. GDP growth rates in the Financing, Insurance, Real Estate and Business Services

sector has been well above 9 per cent in most recent quarters, and that in Community, Social and Personal Services fluctuated between 6.2 and 9.3 per cent. Even in the Trade, Hotels, Transport and Communications sector, which too has witnessed a deceleration in GDP growth, the rate of growth has remained above 5 per cent. It is this resilience in the services sectors that has allowed aggregate GDP growth to remain in the 4-5 per cent range.

THE IMPLICATIONS

These trends in the pace and pattern of growth in the Indian economy have two implications that are worth noting. First, since inadequate public investment and faltering demand explain the deceleration of growth in the commodity producing sectors, "supply side" policies cannot trigger a recovery. Hence, arguments that advocate more and faster reform as the means to trigger a recovery are completely misplaced. In fact, liberalisation of imports and the fiscal squeeze associated with reform have been in large part responsible for the slowdown in growth.

The second implication of our analysis of the pace and pattern of growth is that, given the crucial role of the services sectors in propping up aggregate growth, any development that adversely affects the fragile service economy can accelerate the slide in growth. The events of September 11 and their aftermath have rendered this threat more real. Given the impact that these developments are having on the airline industry, the insurance business and the business services and financial sectors, a sharp slowdown of growth in the services sectors is more than likely.