This year we celebrate the silver anniversary of the commencement of economic reforms. We have come a long way since 1991. From nearly empty coffers of foreign exchange, zero industrial growth, double-digit inflation, currency crisis and being on the brink of defaulting on a sovereign loan. By contrast, today we have among the world’s largest stock of foreign exchange, are the fastest growing economy, and have become a net creditor to the International Monetary Fund. We could have easily chosen a wrong policy response to the 1991 crisis. For who knew ex-ante what would work and what might lead us to further disaster. Opening up the economy to foreign investment and lowering import tariffs certainly seemed rather bold back then. Even the now infamous ‘Bombay Club’ of industrialists screamed in panic against opening up. If there is one reform that stands out from 1991, it is industrial deregulation. In one stroke, we banished the web of permits and licences needed to start a business or augment existing capacity.
As we look back, our focus now is to make starting, running and shutting down a business as hassle-free as possible. We unshackled ourselves from the Licence Raj, and we now look toward reducing ‘Inspector Raj’. The prime minister (PM) has articulated this as a national ambition. He wants India’s global rank in ease of doing business to be among the top 50. It is currently ranked 130th out of 189, although it did jump up to this point from 142 in just one year. This ranking and this priority is particularly relevant to small and medium enterprises (SMEs) which face a disproportionate burden of inspector raj, along with other impediments like access to credit and infrastructure. Another big drag on the ease of doing business ranking is dispute resolution which is extremely time-consuming and costly.
Hence a true celebration of the 25th anniversary of the reforms of 1991 would be to give a big push to policies and initiatives that propel India to a high and sustainable trajectory of good quality economic growth. The country’s demographic opportunity and challenge both imply the need to generate one million jobs for new entrants into the workforce every month, for the next 10 years. It is not as if these jobs will be created by large corporations or the railways or the army. They will come from hundreds of thousands of SMEs. Thus the slogan that India needs “one million jobs per month” should change to “20,000 new enterprises per month”, for only when SMEs are born will job creation take place. All growth-oriented policies should focus on this: What does it take to enable growth of SMEs? Start-up India is an exemplary initiative in this regard.
In the macro sense, there is also an imperative to restore balance of share between agriculture and other sectors. The former generates only 14 percent of national income, but engages more than 50 percent of the labour. Either we absorb a much greater quantity of agricultural labour into higher productivity activities in industry and services, or we vastly improve productivity in agriculture, or both. The National Manufacturing Policy aims to increase the share of manufacturing in India’s GDP from the current 18 percent to 25 percent. Incidentally, since 1991 the share of agriculture has fallen from about 32 percent to the present 14 percent. But the share of manufacturing has remained unchanged at around 15 percent, even though GDP itself has more than quadrupled in this period. This means that the manufacturing sector has also grown four-fold. Clearly manufacturing sectors such as automotive and auto components, oil refining, dyes and chemicals have grown impressively since the early ’90s. Many manufacturing companies in India have got the Deming Prize, the hallmark of global excellence in total quality management.
Twenty percent of India’s exports are petrol and diesel—this was less than 2 percent 15 years ago. In the services sector, the growth of IT, telecom and financial services has been spectacular. In the coming years, India needs to grab the spot of being a low-cost manufacturing hub for the world. The Make in India campaign is really about ‘Make India Competitive’, and not so much about boycotting foreign goods. It has gained international prominence thanks to the several whirlwind tours of economic diplomacy of the PM. Those trips seem to be paying off. This year India received the highest ever foreign direct investment. Most notably, the foreign money inflow into private equity exceeded the inflow through FIIs. This is very significant indeed.
India gained hugely from the sharp drop in oil prices over the last two years. It helped reduce the fiscal and trade deficit, and keep inflation moderate. It will also help divert fiscal savings toward building infrastructure.
The world is in an uncertain phase. World trade has slowed down. Brazil and Russia are in recession. China recorded below 7 percent growth for the first time in three decades (barring 2009). Hence India has to rely on internal drivers of growth. Unfortunately, private sector investment has stagnated. That’s because of low capacity utilisation, high leverage, flood of imports and not-so-strong demand. The relatively high interest rates are also not helping. Thus domestic growth in the near term will have to depend on public spending. Thankfully there is adequate fiscal space for this, without having to breach any fiscal deficit promises. Another painful situation is that of non-performing loans (NPLs) in the banking system. They are at a 13-year high, with very low credit growth (at a 20-year low). The NPLs make it difficult for banks to reduce their lending rates. The Reserve Bank of India has given several options for restructuring bad loans (called the corporate debt restructuring mechanism, or CDR), or swapping debt for some equity of the defaulting company (called special drawing rights, or SDR), of elongating the payment period (called the 5/25 scheme). It’s true that most of the NPL problem has come from the infrastructure and real estate sector. Infrastructure funding requires long-term funds, not the on-demand deposit funds available with banks. Maybe the best option in a case of near emergency is to move some of the bad loans in a “bad bank”, and sell them off to turnaround specialists or asset reconstruction companies.
On the eve of the Union Budget, the finance minister (FM) is again staring at a tightrope walk. On one hand are the expenditure commitments (such as those from the Pay Commission), and the desired thrust on infrastructure. On the other hand are revenue imperatives to meet the promised fiscal deficit. The government has so far cleverly offset the drop in oil prices with increases in specific excise duties, and shored up its funds. It is also possible to rely on tax buoyancy impact of lowering corporate income tax rates (a la the Laffer Curve, which is a graphical representation of the relationship between tax rates, tax revenue and taxable income). Additionally, the FM would do well to explore the possibility of asset sales too (such as the government holding in the erstwhile Unit Trust of India). It is possible for the FM to remain within the projected fiscal deficit path, and yet provide adequate fiscal boost to growth through infrastructure spending. The latter must be focussed on rural areas far more, such as roads and irrigation, since two consecutive years of drought have resulted in rural distress in many areas.
Let’s step back and go beyond the temporary business cycle dynamics. India’s structural advantage is its young demography (human capital) and high savings rate (financial capital). Proper nurturing of both (through skilling, education, financial sector deepening) can easily achieve 7 to 7.5 percent growth for more than a decade. That would take our GDP past $5 trillion. Given that stock market wealth creation is roughly commensurate, we are looking at the possibility of generating about $3 trillion of wealth in the next 10 years, easily. If that does not excite investors, what will?
(This story appears in the 04 March, 2016 issue of Forbes India. To visit our Archives, click here.)