An end-of-the-year introspection is a typical ritual, just like New Year resolutions. Perhaps it was this that prompted the Finance Minister to admit in a speech last week that policymakers paid inadequate attention to the shift from public to private demand following the post-crisis stimulus; and that ‘internal imbalances’ need to be addressed.
This self-searching could not have come a day too soon. As the economy splutters on most indicators, it is the collapse of investment and persistent inflation that demand the greatest attention. This, in turn, underlines agriculture and infrastructure as the focus spheres in the real economy to spur growth; points similarly urged by both Raghuram Rajan (honorary advisor to the Prime Minister) and C. Rangarajan (chairman of the Prime Minister’s Advisory Council) last week as well.
The introspection could be well-extended to other dimensions of economic policy. For example, the rising tendency for quick-fix solutions and the increasing appetite for risk. Both of these have been in abundant display in recent times. As the rupee’s plunge served a wake-up call to policymakers, the floodgates for foreign debt have been opened in quick succession. This includes raising foreign investment limits in sovereign and corporate bonds and interest rate caps on external borrowings, deregulation of interest rates on deposits by non-resident Indians (NRIs), allowing micro-finance institutions to borrow abroad, and so on. Pitched as financial liberalization, it need be remembered that India’s relatively low foreign debt levels are a less significant consideration here; the key relevant factor is the country’s persistent, structural fiscal imbalance that has a tendency to periodically slip into crisis territory. There’s good reason why sovereign debt has remained restricted to foreigners.
Understandably, all these measures are aimed at increasing foreign currency inflows at a time when the current account financing is under intense pressure. Are these however, substituting for past oversight? What, for instance, has led so quickly into taking measures that reflect past crises of the pre-9% growth days? Steps like forbidding rebooking of cancelled forward contracts were last deployed in the East Asian crisis, 1997-98; it was 1998 again when foreign currency inflows were elicited from nonresident Indians (Resurgent India Bonds), the traditional mainstay of pre-1991 balance-of-payments support, abandoned thereafter to reduce external vulnerability and risk. There’s a need to review the interplay of capital inflows-appreciating currency-imports and consumption boom -widening current deficit of recent years that possibly raced too far ahead of the fiscal situation that remained, well, old-fashioned!
Finally, the high-dependency of the economy upon unstable, non-FDI flows to finance its 8%-plus growth merits a serious review. The growing linkages to the boom-bust cycle of capital flows have led to higher volatility, which has well-established, negative effects upon growth. Even before the rupee storm subsides, it would be useful to remember that in putting out one fire, others might be getting lit.
Renu Kohli is a macroeconomist based at ICRIER, New Delhi; she is a former staff member of the International Monetary Fund and the Reserve Bank of India.