New Delhi: Within the first month of Raghuram Rajan joining North Block as chief economic adviser in the finance ministry, the government has shown some signs of resolve in seeking to revive investor sentiment and the growth momentum. Rajan recognizes the difficult decisions that the government has to take going ahead. In an interview, Rajan said that in the absence of a conducive external growth environment, it became more critical to cut subsidies, resolve regulatory and infrastructural bottlenecks and build a sense of optimism to drive growth back to pre-crisis levels. Edited excerpts:
Has the economy bottomed out?
I don’t know. Part of the answer is: has the world economy bottomed out? And again it’s not clear what the answer is. I think regardless of what that answer is, we should work on creating conditions of not slowing down. That is hopefully what we are in the process of doing.
In the run-up to joining North Block, you had talked about the concerns to the Indian economy from the external sector. What is your assessment today?
It is still a big risk factor. Clearly the world is growing very slowly. Trade is around 40-45% of our GDP (gross domestic product). That is a big extent to which we are exposed to the world. Clearly some of our slowdown is because of slowdown of the world. If our exports were stronger, perhaps we would not have slowed as much as we have done. But also domestic factors are involved. The risk of financial sector meltdown, which withdraws risk capital suddenly like in 2008, that is a potential concern. We have some exposure to European banks. They have lent some money to India. Withdrawing trade finance could be a concern. The third source of concern is from commodity prices. Slow growth and commodity prices necessarily don’t go together. But they may, if you have geo-political risk which pushes up commodity price even when you have slow growth. That could hurt us.
The right combination for us would be more growth outside, but at the same time lower commodity price inflation. That is probably not a combination we are going to find. But at least moderate growth outside and lower commodity prices will give us respite on the external deficit front but also on the government (fiscal) deficit because the outgo on fuel will be lower.
The third quantitative easing by the Federal Reserve has happened since you joined North Block. Does not that complicate matters as it will drive up commodity prices?
That is the theory. But this time around, surprisingly, the initial flush was that; but soon after it seems to have dissipated. So everybody was anticipating it would push up commodity prices once again. It has not quite happened so far. Let’s wait and see. I don’t fully understand the dynamics of that market right now.
Prime minister Manmohan Singh, in his address to the nation, dwelled a number of times on the 1991 crisis. He very clearly alluded to the possibility that in the current circumstances we can look at a similar if not worse crisis. What is your assessment?
I think we have to be wary of getting into that situation. I don’t think he implies we are in that situation. The Planning Commission reportedly has a bad scenario which he alluded to. Those scenarios are worth imagining because for people who say don’t raise diesel prices because you are hurting the common man, you have to respond that you don’t want to hurt the common man, but if we don’t get our budget deficit in order and keep borrowing from outside, we could hurt the common man even more by a full-fledged financial crisis.
Which would you prefer? To be in Greece’s state or have a certain amount of short-term pain through higher diesel price which will get you closer to the market price. Not that you don’t have subsidies, there is still a substantial subsidy, but you are reducing subsidy. In general, we should say these are prices which are not under our control. These are determined by the world. We don’t determine day-to-day price of milk; (so) how can we assure the prices of A,B,C,D,E,F,G will all be fixed. They won’t. There will be some risk to the weaker sections of the society; we can help them meet some of their needs. For the general public, even for the middle class, even though it hurts, you can’t absorb all the costs.
So you are saying we should be worried about the crisis situation the PM talked about, but we are not there. So where is the Indian economy right now?
We had 5.5% growth last quarter and we have $300 billion in total (foreign) reserves. We are very far away from Greece (type of situation) right now. So the comparisons are what if we don’t do anything and we get to that situation. We have our problems; I am not denying that. We have slowed from 8.5% to 5.5%. We certainly should be going back to 8.5-9% growth. To do that, (there are a) bunch of things we need to do.
But to gain conviction that we need to do that, there should be some urgency. When you compare our fiscal deficit and current account deficit with other BRICS (Brazil, Russia, India, China, South Africa) countries, we look much worse than them. We have the lowest forex reserves among the BRICS economies, including Brazil, which has overtaken us. We have to be a little worried that even among large countries we don’t look as good.
But we have some strengths, we should not discount that. We are not overly dependent on the industrial countries and China for growth. If industrial countries and China slow down, commodity producing countries will be relatively badly hit; we will be relatively immune. Can we take advantage of those kind of situations by looking better than others in the time of crisis? We have an opportunity, let us take advantage of that.
You talked about low commodity prices and decent global growth which will help the Indian economy. What can we do domestically to tackle the twin deficit problem?
I think on the fiscal side, clearly reducing some of the subsidies is extremely important. That is what we are working on. On the revenue side, the finance minister has emphasized more efficiency in revenue collection, which can be part of the answer. If we don’t permit deceleration in revenue collections, then we get closer to meeting our deficit targets.
On the growth side, removing the impediments to the projects that are underway is the quickest way to energise growth. Getting projects that are near completion to start producing, immediately you get a positive boost to GDP. So let’s try and do that; (provide) coal linkages where they are needed, permissions where permissions are required and so on. The finance minister has proposed a national investment board. Measures like that, more regular meetings of the cabinet committee to approve projects, that can take us some distance. That is for the short term.
In the medium term, we need to also create conditions for new projects to start because that is how you will get long-term growth. So, (we are) trying to build up sentiments, trying to build a sense that demand will increase. The stock market increase will help. The rich consumer who invest in the stock market will start looking at their portfolio and say, “I can spend some more”, on cars, on SUVs. But hopefully also there is a sense more broadly, with the rabi season expected to be doing a little better due to the strengthened rain, farmers may feel a little more confident.
Broadly if there is a sense of optimism that builds up as well as change in reality, (with) more reforms on the way, then we get a momentum, that builds back to higher levels of growth.
What is your outlook for inflation?
Core inflation, which the RBI (Reserve Bank of India) generally looks at, is in the 5-5.5% range; with some help it can be brought below 5%. What has proved harder so far is the CPI (consumer price inflation) which includes substantial food elements, which have been on an upward trajectory, where the supply-side constraints are significant. How far we can bring that under control in the short run and how much we need the supply response, through measures such as FDI (foreign direct investment) in retail? Getting vegetables from the farmers into the market require logistics chain which in some places is complete, in some places is non-existent. So why would a farmer produce more vegetables if he can’t get it into the market? We need that supply chain to be created. That takes a little bit of time. We need to work on the supply response to be fully assured that (food) inflation will substantially come down. Monetary policy can only do so much. But hopefully all these things working together, I see some of it as short-term battle and some of it longer-term battle.