India’s Slowdown May Have a Silver Lining??

IMF econs – Roberto Guimarães and Laura Papi – summarise the state of Indian economy.

They say Indian eco slowdown mainly because of investments which is pretty much known:

The slowdown in growth has been primarily due to falling investment.

Investment reached 38 percent of GDP in 2007/08, just before the onset of the global financial crisis, lifting growth to nearly 10 percent. But investment growth subsequently dropped sharply, crossing into negative territory for the last two quarters of 2011.

This downturn is unprecedented. With the exception of the September-December quarter of 2008, one would have to go back to the last quarter of 2001— more than a decade—to find a year in which investment fell. Since quarterly national accounts have been compiled, no consecutive declines in investment were recorded until 2011.

The weakness in investment has been mainly due to domestic factors, such as high and volatile inflation, but not real interest rates. However, macro variables alone cannot fully explain the weakness in investment in recent quarters, suggesting that other causes, such as structural factors that affect the business environment, were also at play. We’ll discuss investment in India in a subsequent posting.

They point to a thumb rule for GDP/investment growth:

Practitioners of the dismal science often use the rule of thumb (estimated for a large group of countries) that a one percent of GDP decline in investment could lower trend growth by about 0.3 percent.

To give an idea of what that means for India, the decline of share of investment in GDP by 3.7 percentage points since the global financial crisis could lower trend growth by slightly more than one percentage point. While this may not seem much to some, the long-run implications are daunting: income per capita would be nearly US$1,000 lower in 20 years (more than 50 percent of today’s income per capita) if the economy were to settle at a growth rate of 7 percent instead of 8 percent.

Policies can make a big difference:

The good news is that policies can make a big difference.

Right now, the government can boost investor sentiment by accelerating the pace of project approvals and launching high impact reform initiatives such as rationalizing fuel subsidies or further liberalization of foreign direct investment rules.

These steps could signal a turnaround and be catalysts for other reforms.

Addressing problems in the power and coal sector is the immediate priority given the linkages across all sectors in the economy. The latest budget begins this process with some financial reforms, measures to broaden the use of public-private partnerships (PPPs), and an enhanced role for UDIs (unique identification numbers) in targeting government programs, which could improve the efficiency of spending.

The RBI has continued to implement financial reforms to facilitate infrastructure financing, improve the transmission of monetary policy, and promote financial inclusion.

If these positive signs are quickly followed by bolder government action, the recent slowdown would have a silver lining.

It is a “big If” and IMF econs are likely to be disappointed given current state of political affairs.

It is amazing to note how Indian eco is falling from being a darling of foreign investors/think tanks/economists. All happening too quickly but somehow our policymakers remain defiant and blame it all on Eurozone..

Actually, the recent developments are not a silver lining. They are a red warning (for lack of better word) for all those who think economic reforms can continue without political  reforms. It is politics which matters sadly and it rules over everything else.

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