As the dust of the world’s largest democratic exercise settles, the focus will shift to the expectations from the new government. With the emergence of a more demanding voter, increased youth involvement, rising income levels and greater urbanisation, this may well be a watershed election for India. In their perpetual effort to portray India’s current challenges as being fundamentally different from what they were 10 or 20 years ago, political parties often forget or underplay the fact that the country’s central challenge has almost always been a scarcity of supply of almost everything that is important for modern economic life. Hence, with every national election, I tend to become optimistic that the new government will tackle India’s supply-side challenges head on.
I see these challenges as having fundamentally three dimensions: A scarcity of affordable capital, a shortage of reliable infrastructure, and a paucity of nutritious food. These three supply-side challenges are the central reason India has moved from being a developing economy with 5 to 6 percent inflation a decade ago (broadly in line with other Asian emerging markets, or EMs) to a country with 10 to 12 percent inflation (almost twice that of other Asian EMs).
Let me begin by addressing the issues around affordable capital. With most Indian corporates paying in excess of 12 to 13 percent for even short-term loans, Ambit Capital’s economists are of the view that Indian companies have the highest cost of capital outside of sub-Saharan Africa. The reason for this is not hard to find. Although India saves just under a third of its national income, more than two-thirds of these savings go into physical assets—primarily gold and real estate. As a result, banks serve as the main mode of financing for the vast majority of Indian businesses. By itself that wouldn’t be a major issue were it not for the fact that the Indian banking system now finds itself in very tricky waters.
An analysis by our banking team indicates that if one makes reasonable assumptions regarding the percentage of the currently stressed assets of the banking system that will have to be written off, and if one factors in incremental Basel III capital requirements over and above that, Indian banks need around $40 billion to regain balance sheet strength. This amounts to 2 percent of India’s GDP. Given that in the July budget India will have to cut its budget deficit further—or risk a sovereign downgrade—it is not clear how this recapitalisation will be financed. Since an economy where the banks are in bad shape can’t really mount a serious recovery, I believe the new government’s first priority should be to address the issues facing the banking system.
On the infrastructure front, our extensive deficits are well known. I see the three central issues in the infrastructure sector as being:
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(This story appears in the 30 May, 2014 issue of Forbes India. To visit our Archives, click here.)
Absolutely brilliant article. Finally, someone has said this- outside of the business community. All the intellectual academics who advocate raising of interest rates (and who've never done a days worth of business!!) should be forced to operate as businessmen in the current Indian scenario, make a profit and then speak about policy! This is the first time someone has articulated a logical response to inflation. All we've been hearing is how we have to keep interest rates high to tame inflation and even though this is clearly not working, next, we hear is how we must raise them even higher. Production, In India has been killed off and there is absolutely no effort made to invest in the supply side of things as there is no capital available at reasonable rates to do this. Besides that, most importantly is - we have a growing population which places even more demand on goods, infra etc and this growing demand is leading to inflation, importing from abroad and hence higher CAD. As for the paucity of nutritious food- I have a personal example. I wished to carry out high intensity mango farming in Goa. There are loads of hills and highly suitable land available to me. However, most of these hills (which were originally barren) are populated with non productive plants which were planted by the central Indian govt in the late 70's. The environment ministry refused my proposal of repopulating these hills with productive plants as they said this was protected forest land. As a logical person i did not see the difference between planting a new species of plant with a another species - both of which are non native to this originally barren hill. Our regulations are so archaic and bureaucratic that I could have been arrested and jailed for even trying so I gave up. This attitude pervades all department of Government . Another example is CRZ (coastal Regulation Zoning) laws. They forbid anyone from building within 500 mts of the sea. Seeing that we are a peninsula- that's not a very smart idea. Instead of using science to provide a good safe quality of construction as they do in the west, Dubai, Thailand , Singapore, Malaysia etc , India bans it and every Indian on the coast then violates this ban and builds shanty town like structures which face the brunt of nature as in the case of the Tsunami and cyclones etc. Rather than seeing that the only good footage of the Boxing day Tsunami comes from multi storeyed hotels in Thailand which withstood the tsunami and which had the lowest number of fatalities- rather than the shacks and huts in Indonesia and Marina beach in Madras where more people died than in Thailand which was closer to the epicentre- we then went on to be illogical and forced a full ban on construction. A ban that was never possible to be enforced and never will be. So, in the future, if we are hit by a Tsunami, we can then expect these ramshackle shacks to be washed away again and lead to innumerable deaths again. Then , we will want to place further unenforceable bans on something else! It's not the people who are useless- it's the system we have in place which needs to be changed and we need to encourage our businessmen with single window clearances for everything and stop bringing in regressive laws. Some of these regressive laws turn good people into criminals and encourage bribing. One of the reasons, why the BJP 's Mr Parrikar is so popular in Goa is that he promised to reduce the amount of so called 'laws' in Goa and I think Modi has then tried to replicate this all over India.
on May 24, 2014