The latest industrial production numbers released by the government on Monday are higher than what most economists and analysts expected. The index of industrial production for January 2007 was 10.9% higher than it was a year ago. This means that industrial output grew at a slower pace than it did in the year to December 2006, the growth rate for that month being 12.5%.
Meanwhile, ICICI Bank has said this week that its consumer credit portfolio will be growing at a far slower pace than before. There are also early signs of a general slowdown in bank credit. Inflation is off its recent highs as well, though still way out of its zone of comfort. Has the economy shifted into a lower and safer gear? Can we now relax a bit?
It is too premature to reach such a conclusion. Fears that the economy is veering out of control have not yet subsided. Two international business magazines have already expressed concerns about whether India is growing too fast for its own good—given the constraints that it faces. Mint columnist V. Anantha Nageswaran, too, says in his Tuesday piece “that the high noon for Indian economic growth and asset prices has passed.” Others have warned of trouble ahead unless the economy cools down, in terms of a slight reduction in growth and inflation.
That’s fine. But what is this sustainable growth rate that India should be comfortable with? Neither the government nor the central bank has offered any concrete answers, though finance minister P. Chidambaram has said India can grow at 9.4% if it continues to pursue financial sector reforms. It is not clear, however, on what basis he made this cheerful claim.
Many others have tried to guess what India’s Goldilocks rate of growth could be—when it is not too hot, not too cold, but just right. The Brookings Institution and the International Monetary Fund hosted a very remarkable session in Washington DC on 8 March. The main question was: “Is India’s high growth sustainable?” University of California economist Nirvikar Singh said there that estimates on how fast the Indian economy can grow in a sustainable way range between 7% and 8.4%. The former is the estimate put out by Arvind Subramanian and Dani Rodrik, but that was three years ago, just a little after the current growth surge began. The most recent high-quality study on this issue was done by Goldman Sachs a few weeks ago, and their guess is that the sustainable growth rate is 8.4%.
This means that even the most optimistic estimate about the long-term growth potential for the Indian economy is 8.4%, which is exactly the same as the latest quarterly GDP growth numbers. But growth for the entire year will almost definitely be higher, perhaps crossing the 9% mark once again. The Planning Commission believes that India can grow at 9% between 2007-2012, the period covered by the new 11th Plan. Is that too much?
These are not mere academic quibbles. India will double its economy in 10 years if it grows at 7% and will double its economy in eight years if it grows at 9%. The impact of key parameters like poverty and employment can be significant as well. Given the current rates of savings and investment, one can assume that India’s sustainable growth rate is somewhere around 8.5% a year, not too much lower than the current rate of GDP growth.
What this means is that the economy is mildly overheated, rather than dangerously so. India is nowhere near being a bubble economy, headed for a spectacular bust. There is no need for dramatic policy interventions, though a small hike in interest rates would help.
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