It’s leaving the economy’s potential unfed and undernourished, again

It’s leaving the economy’s potential unfed and undernourished, again
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First Published: Sat, Mar 01 2008. 12 37 AM IST

V Anantha Nageswaran, Head, investment research, Bank Julius Baer & Co. Ltd,Singapore
V Anantha Nageswaran, Head, investment research, Bank Julius Baer & Co. Ltd,Singapore
Updated: Sat, Mar 01 2008. 02 55 PM IST
Finance minister P. Chidambaram was proud that he could present his fifth budget in a row, like Manmohan Singh did in the 1990s. The similarity seems to end there. As finance minister, Singh, out of conviction or compulsion, tried taking India into a new era. This Budget is a throwback to the days of Janardhana?Poojary,?in?a?different?way.
V Anantha Nageswaran, Head, investment research, Bank Julius Baer & Co. Ltd,Singapore
Chidambaram seems to have a sense of humour, though. He said his government had continued with the economic reforms initiated by the Congress government of the 1990s. He should have acknowledged that the National Democratic Alliance government had pursued some bold reforms—at least since 2002. Against stiff resistance from within and without, Arun Shourie pursued privatization and not disinvestment. The Indian Express ran a series of articles in December on how well the privatized companies were doing. Most had become healthier in many respects, in varying degrees. This government is resolute against privatization.
Privatization?would?considerably?enhance the depth and breadth of the stock market. Listing of public sector enterprises in the stock?market will only achieve limited?results.?We know it has done little to improve corporate governance. Oil firms’ stocks are languishing precisely because they don’t have the autonomy to set prices for their products. Crude oil futures now show prices remaining near $100 a barrel up to 2016.
Instead of sensitizing users to the enduring reality of higher energy costs, the government subsidizes the prices of hydrocarbon products and electricity. This encourages frivolous consumption and the household savings rate is stuck at around 20%. Normally, in a growing economy and with rising incomes, this rate should rise. But it has risen in recent years in India because of strong corporate profits. The core of savings generation has to be the household, but it is being encouraged to go down the path of advanced nations that are consuming beyond their means. The resultant rise in aggregate demand does little to raise the productive potential of the economy since capital-spending catering to consumption demand is seen as more profitable.
The farm-loan waiver is a classic example of an emerging economy learning nothing and forgetting nothing. It’s nothing less than a throwback to the 1980s.
In the early part of this decade, India benefited from globally falling interest rates. Since then, yields on government securities have gone up. That surely reflects tighter monetary policy and an inflation premium. But, surely, it would be interesting to do a counterfactual scenario on what prudent fiscal policy could have achieved for interest rates, based on the experience of other emerging markets. Brazil, despite market fears when President Lula assumed office, has maintained a primary surplus of around 4% of the gross domestic product and is poised to attain a single A rating before India does. Its credit rating is, in any case, one notch above India’s.
The failure to support financial markets with real reforms aimed at enhancing and realizing the economy’s productive potential prevents one from cheering some of the financial and capital market initiatives. The plan to introduce exchange traded interest rate and currency derivatives is welcome. A greater number of financial instruments help reduce market incompleteness. Both hedgers and speculators benefit. But, even with safeguards, it is not clear whether India needs credit derivatives.
Western governments and financial institutions are now learning that credit derivatives don’t?eliminate risk, just hide them. This makes them hard to manage. Their ability to serve the role they’re intended for is?also?questionable.?Warren?Buffett?famously called derivatives weapons of financial destruction. We don’t have to copy the West’s bad habits. Both in the real and the financial economy, we can develop our own idiom. A pity that both the middle class and the government seem keen to reinvent the wheel.
Year-to-date, foreign institutional investors have pulled $2.8 billion out of Indian equities. They needed to see signs of responsible governance supplementing private sector resilience to come back in bigger numbers. This Budget won’t reassure them. Therein lies the risk for Indian equities in the near term.
These are the author’s personal views.
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First Published: Sat, Mar 01 2008. 12 37 AM IST