India’s Sustainable GDP Growth Rate May Be Between 6% And 7%: V Anantha Nageswaran
The slowdown in the Indian economy must be benchmarked against a realistic estimate of the country’s potential growth, according to V Anantha Nageswaran, part-time member of the Economic Advisory Council to the Prime Minister.
This potential GDP growth rate, Nageswaran estimated, is between 6 percent and 7 percent and not the aspirational 8 percent-plus that is sometimes used to benchmark strength, or lack of it, in the Indian economy.
“We have been lulled into believing that India has crossed 7 percent growth and is close to achieving 8 percent potential growth, based on a few years of high growth rates. But the fact that those were followed by either high inflation or high current account deficits or banking crises, suggests that our potential is somewhere below 7 percent,” Nageswaran said in a interview with BloombergQuint. In that sense, “we have not been growing too far below potential over the last few years”, he said.
India's GDP growth rate is seen at 5 percent in FY20 and at near 6 percent in FY21.
Still, the decline in growth rates to 5 percent in the first quarter of FY20 and further to 4.5 percent in the second quarter suggested that counter-cyclical policy measures are needed. The government and the Reserve Bank of India have done that through recent policy announcements in the budget and the monetary policy review.
Budget: Walking A Tight-Rope
The budget walked a tight rope between spooking the bond markets with a wider fiscal deficit and ensuring that fiscal policy doesn’t become pro-cyclical in the name of fiscal consolidation, according to Nageswaran.
Expenditure grew in FY20 and is budgeted to rise in FY21 as well so there is fiscal stimulus, said Nageswaran, even though he acknowledged concerns about the government’s ability to meet its revised budget estimates for the current year and the budget estimates for the next year. “Perhaps the government expects the ‘vivad se vishwas’ scheme to be its white knight so lets wait and see,” he said.
Following the budget announcements, economists also raised concerns about the decline in central transfers to states. This, they said, could hurt growth in the fourth quarter of the current year.
Nageswaran agreed that if states are unable to spend, that will diminish the impact of any stimulus provided by the central budget.
RBI: Showing Intellectual Flexibility
The budget should also be seen together with the steps taken by the RBI, Nageswaran said.
On June 6, the RBI announced that it would conduct long-term repo operations and provide banks with funds for one-three years at the benchmark repo rate. This, together with relief on setting aside cash reserve ratio on loans to some segments, could help push up lending, the central bank said.
Nageswaran highlighted that the financial sector induced slowdowns, such as the one India is facing, tend to be longer and deeper. Faced with a broken credit transmission mechanism, the RBI, which also has an inflation targeting mandate, has chosen to use macro-prudential measures, he said.
“This is the equivalent of what the Bank of International Settlements has been saying, that we should provide counter-cyclical buffers. Use your judgement on which sectors have bottomed, where the risk of bad loans is lower, and try to direct credit to those sectors. All those things the RBI has done,” Nageswaran said. The RBI has been imaginative in its approach and deserves credit, he said.
However, equally, the central bank needs to be cautious about pulling back some of these unconventional measures, including those that target the yield curve in the bond markets, in time, Nageswaran cautioned.
In using macro prudential tools, while keeping interest rates unchanged, the RBI also found a way around the more restrictive inflation targeting mandate handed to the monetary policy committee. Nageswaran sees no problem with this.
What we need in economics and public policy is intellectual flexibility. More importantly, we should roll them back or roll them forward depending on the context. The problems arise when you think something is working well and don’t pull it back in time... At that time, you have to display the same amount of intellectual agility.V Anantha Nageswaran, Part-Time Member, Economic Advisory Council to the Prime Minister
External Sector: Open-Up With Caution
Between the RBI and the government, India has also seen a number of steps which open up the economy to foreign capital flows.
External commercial borrowing rules have been eased, foreign direct investment has been encouraged in a number of sectors and now the government proposes to open up certain government securities fully to foreign investments.
Is this prudent?
“I have always been a skeptic of rapid financial sector liberalisation and foreign capital flows,” said Nageswaran, who recently authored a book on the Rise of Finance. “We need to be vigilant and confident about the kind of capital we are happy to welcome,” he said. “I hope some of these measures are temporary and we can regulate the pace once the domestic credit mechanism starts working better.”