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Reforms look gradual in Modi Raj

Reforms look gradual in Modi Raj
A stormy start to Parliament’s winter session already seems to underline the ‘exciting times ahead’ that the Finance Minister Arun Jaitley himself presages, though in a positive sense, for ‘the whole set of second generation reforms’ he intends to unleash in February next in the Union Budget for 2015-16.

Signs are ominous for a smooth run for contentious reforms that the international community would want, with the political polarisation that NDA has brought on itself. But there is a compelling need for Mr Jaitley even at this stage to boost sentiment, especially for global investors unmoved by the Modi Government’s rather lacklustre performance, in its first six months.

So much so, with all its relatively smaller steps such as to make ‘Doing Business’ easier including single window procedures and hastening of clearance processes for clogged coal and power projects, India’s growth is now adjudged to be picking up slowly as of now. This may be in tune with what the OECD calls ‘gradual and steady approach’ opted for by the Modi Government.

In its updated Economic Outlook on November 25, OECD projection for India remains at 5.6 per cent in the current year, rising to 6.4 and 6.6 per cent in fiscal 2016 and 2017. But this needs implementation of ‘system-wide reforms’ to solidify a shift to higher gear growth. This strengthening, subject to reforms going through, will be in refreshing contrast to a slowdown in China and rising concerns about financial stability.

A second imperative as the Outlook suggests is continued tight fiscal and monetary policies to contain inflation. Though headline inflation is falling, inflation expectations remain high and ‘monetary policy should not be loosened until inflation expectations adjust downward and the path of disinflation is well entrenched’. CPI is projected to decline from 7.1 per cent in the current year to 6.3 in 2015 and 6.0 per cent in 2016.

While the Finance Minister favours a repo rate cut which, he feels, would make the cost of capital reasonable, OECD maintains that RBI should ‘keep interest rates steady until disinflation process becomes more entrenched.’ The moderation in inflation noticed is due to both lower commodity prices and a ‘more credible and tighter monetary policy stance’ playing an important role. RBI Governor Dr Raghuram Rajan is due to announce the fifth bi-monthly policy review on December 2.

In pursuing fiscal consolidation, the Outlook emphasis is on improving its quality, given the need for further investment in social and physical infrastructure. Despite efforts at fiscal deficit reduction in recent years, the Government (central and states) deficit is very high at estimated 6.9 per cent and 6.6 per cent of GDP in 2014-15 and 2015-16.

It would, therefore, be essential to improve effectiveness of targeting large subsidy programmes and to raise revenue with less-distorting taxes, such as by GST. Reviving inclusive growth would also require ‘deep structural reforms’ to improve the business environment and ‘modernise’ labour and tax laws, according to OECD.

While India has reduced external vulnerability and the current account deficit substantially from 2012, and it was only 1 per cent in the first half of 2014, the deficit may rise to 2 per cent in fiscal 2016 as domestic demand firms up - and imports are already rising - but it would still be at a sustainable level.

On domestic investment, OECD Outlook expects investment-led recovery to get support from clearances of stalled large projects as well as new investment projects, in particular, in power and transport sectors. Private consumption should pick up steadily, specially in rural areas reflecting past rises in rural wages as well as ongoing efforts to promote access to credit to every household.

High corporate leverage and deteriorating asset quality in banking sector are cited as factors that may affect investment, among risks at home. Any spike in commodity prices could add to fiscal, inflation and current account pressures. In sum, according to OECD, sustained recovery depends critically on implementation of structural reforms though India’s record in this has been ‘uneven’.

China and India are still the fastest growing economies and Indonesia is also catching up with subsidy cuts and other reforms with growth ranging from 5 to 6 per cent over the next two years. As a leading member of G-20, India is called upon to undertake reforms to tax, trade, labour and product markets which would benefit domestic investment and global trade and support greater employment and consumption in the world as a whole.

Mr Jaitley has talked of opening more sectors and giving comfort to investors. He has also talked of sparing the salaried middle class from any more tax burden while he would have liked to raise exemption limit if he had the finances.  But he has discreetly avoided talking of revenue mobilisation through direct taxes whereas indirect adjustments he would be making, would throw a burden for all classes of people.

Apparently, the Modi government believes in attracting more external capital flows to finance development along with borrowings and disinvestment.

The poor do not seem to figure much in the Finance Minister’s rhetoric so far. In the name of DBT, however imperfect the mechanism, the poor are supposedly taken care of.

It is understandable that Mr Jaitley should create high expectations ahead of his forthcoming budget hoping to set better standards all round after the first disappointing 9-month budget he presented in July last. He has talked of stability of tax system and other sound principles, all heard from his predecessor as well.

The next two years would see continuing difficulties in the post-crisis recovery for the world economy as a whole. India like other major economies would have to reckon with downside risks, highlighted in the OECD Outlook. These could arise from an upsurge in volatility in financial and foreign exchange markets with rise in US interest rates in the wake of Fed withdrawing monetary accommodation.

Fed has decided to gradually revise its current policy lending rate from near zero in the latter half of 2015. While seeing it as not premature, OECD projects the Fed Funds rate to move to 0.5 per cent in the third quarter of 2015 and to 1.5 per cent in 2016. But the trigger would get reflected in a surge in global interest rates.  IPA
S Sethuraman

S Sethuraman

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