Dr. Syama Prasad Mookerjee Research Foundation

Policymaking In Uncertain Times: The India Story of Grit, Determination & Perseverance

Nobel laureate Paul Krugman not so long ago tweeted, “If you were looking at housing starts, you’d think there was a significant slowdown in the process. But employment hasn’t declined at all. I honestly don’t know quite what’s happening, but surely this is a large part of the mystery

This highlights the complexity the economy presents to policymakers around the world. The global economy has faced unprecedented challenges in recent years, ranging from geopolitical to once-in-a-century health crises. Policymaking has been particularly complex in emerging market economies. Apart from addressing the structural bottlenecks, EMEs have to deal with global spillover effects. As the world economy continues to recover from a series of shocks, prominent diverging trends among economies have now become evident. The new status quo will likely be much more challenging than the previous one. Focusing on carrying out structural reforms and building solid fundamentals would be the key. The Fiscal and Monetary authorities will have to be on their toes to stay ahead of the curve.

According to recent estimates by the International Monetary Fund (IMF), global economic growth is expected to be sluggish, coupled with persistent core inflation. The US economic growth for this quarter has been higher than expected, the labor market remains buoyant, and a gradual decline in inflation has boosted the probability of a soft landing. However, the rise in growth is majorly driven by a strong performance by the service sector and not by a rise in consumption. The Euro area and China have proven to be the laggards. These are worrying signs for emerging economies that rely heavily on exporting goods to the advanced economies. On the financial markets front, the Fed continues to raise interest rates to counter the effects of excessive money printing during the pandemic. This has led to a sharp spike in US bond yields, which resulted in massive capital outflows from EMEs in recent months. Such outflows put the domestic currency under immense pressure.

Amidst the dark clouds of global economic slowdown, the Indian economy has emerged as the silver lining. Despite the Fed raising interest rates, the Indian Rupee (INR) has remained resilient and undergone only marginal depreciation. The recent

inclusion of Indian Bonds in the JP Morgan emerging market bond index points to solid fundamentals of the economy. This news has come at a time in an uncertain global economic climate, which reflects the belief of international investors in the ‘India growth story.’ This move will lead to an inflow of foreign funds and bring down the borrowing costs for the government and corporates, making investing more lucrative.

An ideal scenario for any economy is when the banks are willing to lend and corporates can borrow. This is a fundamental prerequisite for any economy to grow. When the NDA government took over in 2014, the economy was crippled by the twin balance sheet problem. Impaired balance sheets of banks adversely affected their ability to lend, which had severe repercussions for private investment and growth. In 2016, the Insolvency and Bankruptcy Code came into force aimed at faster liquidation and recovery of dues from defaulted companies. The Reserve Bank of India advised banks to be prudent in their lending and, at the same time, encouraged them to set aside higher provisions to counter expected credit losses.

After years of consistent efforts, the bank NPAs are down to a ten-year low at 3.9%. The stress test results show that Indian banks are well-capitalized and, in a position to boost private investment. What has been more encouraging is to see that the healthy balance sheets of corporates have turned the ‘twin balance-sheet problem’ into a ‘twin balance-sheet advantage.’ With an emphasis on developing crucial infrastructure coupled with robust financials of India Inc., the economy is poised to grow at a rapid pace. This has been a great example of how fiscal-monetary policy coordination helped the economy to navigate through troubled waters, which can be a template for the future.

As a result of the improved performance of the banking sector, consumer credit growth recorded a 30% rise compared to last year in a high-interest rate environment. Another positive sign is that the household balance sheets have improved from the pre-pandemic levels. Data suggests that Indian households are not in a debt trap as the ratio of financial liabilities to financial assets has fallen. A rise in private final consumption reflects the higher purchasing power of the Indian consumer and the wave of optimism in the economy. Having said that, one must remember no country has become rich by relying solely on solid consumption demand, and the government is aware of this. The government has initiated major

infrastructure projects that will act as a catalyst for faster manufacturing growth and employment generation. The government will have to continue on the path of capital expenditure while avoiding slippages on the fiscal consolidation path. A secular increase in GST tax revenue is an encouraging sign for the economy, the government must focus on expanding the tax base and greater compliance. With cleaner balance sheets and higher domestic demand, firm-level capacity utilization has gone up. Faster consumption growth will likely boost private investment, which is critical for employment generation and gaining growth momentum.

Finding newer avenues for sustained growth would require making tough calls as we come close to the election year. The government must continue on its reform agenda to keep the engines of the economy running. As companies diversify their supply chains, state governments must take this opportunity seriously to attract foreign investment. The drivers of economic growth are consumption, investment, government expenditure, and net exports. Since the slowdown may affect net exports adversely, sound policymaking has ensured that the remaining growth drivers keep delivering.

(Atish Kumar has been an associate with Y20, the Youth Engagement Group of G20 India, for 2023. Views expressed are his own)