Healthy path for recovery

The Modi Government, still overcoming the totally disruptive impact of demonetisation in November 2016, also has to make the hurriedly launched GST more workable with further rate readjustments and easing the tax compliance, especially for small-scale business sectors. Exporters continue to face delays in tax refunds.

With a belated launch of recapitalisation plan for public sector banks, the government is also caught in the labyrinth of ways of funding means and sorting out legal issues related to bankruptcy procedures for delinquent borrowers. OECD urges that the large recapitalisation for PSBs should be accompanied by governance reform so that banks do not run into a renewed accumulation of bad loans.

Overall, the Modi Government will have no smooth sailing for the months to come. Yet, a modicum of progress on these structural reforms will become a key factor for restoring credit growth and triggering a private investment revival.

Now, in line with downward revisions by other global institutions, OECD puts growth estimate at 6.7 per cent for the current fiscal year ending March 2018. It expects growth to pick up to 7 per cent in 2018-19 and 7.4 per cent in 2019-20. This is predicated on progress with the ongoing bank and other reform efforts (GST). The economy is projected to "strengthen to above 7 per cent, gradually recovering from the transitory adverse impact of rolling out the Goods and Services Tax (GST) and measures to choke off the black economy, including demonetisation".

In the longer run, GST would boost corporate investment, productivity and growth by creating a single market and reducing the cost of capital equipment, OECD said in its latest Global Outlook (Nov.28). The investment will be further supported both by the plan to recapitalise public banks and by the new road plan.

Currently, consumption is led by growth, though depressed in the months after demonetisation. Consumption is recovering from the liquidity crunch and there is some rebound in rural consumption as well as a rebound in two-wheelers sales, bountiful crops in a normal monsoon year, and higher rural wages. The large increases in wages, pensions and various allowances for public servants are also boosting private consumption, in particular in urban areas.

Import growth has slowed, after the surge in gold and silver import ahead of tax changes. Investment has failed to rebound so far, affected by the weak financial position of most public banks and some corporations, combined with a low capacity utilisation.

According to OECD, an increase in public pensions and wages, as well as debt write-offs in some states, is resulting in a "broadly neutral" fiscal stance over the projection period (2017-19). Given the high public debt-to-GDP ratio, increased spending on social (health and education) and physical infrastructure would require additional revenues by raising more property and income taxes.

With inflation expectations adjusting down to around 4 per cent, some easing of monetary policy is proposed. OECD has assumed policy lending rate (repo) to be cut from 6 per cent now to 5.75 per cent in mid-2018 and to remain constant thereafter if inflation durably remains below 4 per cent. Overall, inflation has fluctuated well below the 4 per cent target, since October 2016 and inflation expectations are adjusting down. Some price spikes are likely in the coming months, as base effects vanish, OECD says.

Globally interest rates would go up with US FED expected to gradually hike key interest rate from 1.25 at present to reach 2.75 per cent by December 2019. Another assumption is that international oil prices would average 60 dollars a barrel throughout 2017-2019. This would mean in India a build-up of both fiscal strains and inflationary pressures while higher global interest rates could also lead to some capital outflows, though manageable with current reserves. The Current Account deficit is also set to worsen in the next two years, despite global trade expansion at over 4 per cent in these years.

OECD sees scope for improving the quality of public expenditure and notes recent efforts to move away from the informal economy and to digitise transactions are boosting tax revenue. However, non-tax revenues, dividends, privatisation and telecom receipts are below budget. On the spending side, wages and various allowances for government employees are being adjusted up while several states have announced farm loan waivers, leaving little scope for a further fiscal stimulus with the deficit already high. Still, in the medium term, the expectation is that the GST would spur tax revenue.

Creating more and better quality jobs, for both women and men, is necessary to promote inclusive growth. The prospect for further structural reforms, in particular in the labour market, is a clear positive risk for growth; OECD urges the Central government to pursue its proposals to modernise labour codes besides encouraging states to reform the labour legislation in their domain.

Global growth is strengthening at 3.6 to 3.7 per cent in 2017-19, the fastest since 2010, but the question posed both in developed and emerging market economies is whether the upturn in investment and asynchronized growth momentum would raise productivity with real wages and higher living standards for all.

(The views expressed are strictly personal.)