When the Bric report came out a few years ago, there were seminars and rah–rahs everywhere as though 2050 was already here and India, along with Brazil, Russia and China, had already reached superpower status. This report by Goldman Sachs led to such euphoria that companies went about spending lavishly on Davos dinners and announcing the greatness of the Indian economic growth story. Well, the same group has put out a report again last week, clearly pointing out that India has seriously slipped behind the other three countries and revising the expectations of the earlier report.
Jim O’Neill and Tushar Poddar of Goldman Sachs have summarized the 10 important tasks that India needs to carry out to achieve its potential and, by all counts, the list is quite forbidding. It includes improving governance, introducing credible fiscal policy, raising basic educational standards, boosting agricultural productivity and infrastructure. Internally, many investment assessments have already put a question mark on India, and last week’s figures of 11% inflation will only add to the worries. Not surprisingly, those who praised the earlier report as the Word of Truth have little to comment on the new one.
In the UK, the Bank of England is mandated by law to do inflation targeting, and if it fails to keep inflation below 2%, write an open letter to the chancellor of the treasury explaining why it has been unable to do so. The most recent such letter was put in the public domain late last week and makes interesting reading. It points out that there are likely to be several more such letters in the coming months and that inflation in the UK, currently at 4%, is likely to persist until the end of 2009. It states the bank would not be adopting a tighter money policy for the present, for that might contract the economy further, and argues that constituents of the inflationary pressure are limited to oil and food, and that there is little pressure on other goods and services. There is an expectation that the price rises in commodities would ease up and given that there is no wage pressure, the chances are that oil and food pressures would ease in six months or so. Hence, it is inadvisable to use monetary weapons to slow the economy. Buoyed by huge exports of defence equipment, the real economy in the UK is chugging along fairly normally.
In the US, too, the Fed has pointed out that it might like to wait and watch given that tech companies are doing well, and there is a resurgence of exports. The damage, so far, has been confined to housing and related sectors other than the financial markets and, therefore, it’s time to wait and watch on monetary tightening.
The comparison with the situation in India is quite stark. Some months ago, policymakers were confident that the Indian economy was sufficiently decoupled from the US economy to continue to grow. It does appear decoupled, but in a different direction.
Inflation in India is not confined to food and fuel prices. In fact, given good harvests and excellent government stocks, there is an easing of pressure on the food front, except in edible oils. There is genuine pressure on wages and the shortage of skilled labour has pushed up wage costs significantly. The worry is that the middle class is not yet in a panic over the high prices — this clearly indicates that higher wages are in fact a cause of higher prices. This pressure on wages is due to the absence of a policy on the part of the government to improve manpower availability through skill training and put educational institutions in order. This is needed to meet the demands of a fast growing economy.
Surely, no blame can be put on the Left for this — government commissions had pointed to skilled manpower problems even in 2005, but little has been done. Apart from wages, there are genuine cost pushes — in power, transportation and raw material costs that are adding to the pressures. Unlike the US and UK today, there are no sectors that are reporting sterling performance, and this is a cause for worry.
Under the circumstances, the Reserve Bank of India moving towards a tighter money policy will slow growth further. Given this cycle of inflation and credit squeeze, we may see the US and UK snap out of stagflation sooner than our economy.
There have been a lot of opportunities missed by the UPA, which have little to do with opposition from the Left. These include improvement in infrastructure, a focus on agriculture and education, and a focus on power generation to ease energy pressures. Most importantly, there has been a significant failure to address supply-side constraints in a growing economy, whether in commodities, agriculture or manpower. It is going to be difficult for the new government to bring these back on track except with tight financial control and better governance. The next few years for the Indian economy are unlikely to be as rosy as the years before even if growth may continue at around 7%.
S. Narayan is a former finance secretary and economic adviser to the prime minister. We welcome your comments at firstname.lastname@example.org