A hazardous prediction exercise
In its semi-annual monetary policy report, the Reserve Bank of India (RBI) projected a V-shaped recovery in the annual growth rates of gross value added (GVA) in the Indian economy in the second, third and fourth quarters of the current fiscal year, 2017-18. The numbers are 6.4%, 7.1% and 7.7%. In the first quarter of the current fiscal year, the growth rate was 5.6%. Considering the number of growth inhibitors that the RBI lists, this sharp projected re-acceleration in growth rates of GVA appears excessively optimistic. Investment proposals are at their lowest since 2004-05. Water levels in reservoirs are at 66% of their capacity, versus 74% last year.
The International Monetary Fund had lowered India’s gross domestic product (GDP) growth rate for 2017-18 to 6.7% (vs 7.2% earlier) and 7.4% for 2018-19 (vs 7.7% earlier). NITI Aayog projects a growth rate of 6.9% to 7.0% for 2017-18, rising to 7.5% in 2018-19. We do not know whether these forecasts reflect a spontaneous or a stimulated recovery. If it is the latter, then the rebound comes with risks attached.
Many attribute the economic slowdown to the effects of demonetisation and, notwithstanding the rebound in exports in September, to the uncertainties caused by the introduction of a “poorly designed and shoddily implemented goods and services tax (GST) whose only contribution was to deprive exporters of working capital just as the global economy was gathering momentum” (“Desperate Medicine For Indian Markets”, Bloomberg, 4 October 2017).
As per the 73rd round of the National Sample Survey, unincorporated businesses (non-agricultural, excluding construction) comprise only 9% of GVA although there are 63.4 million enterprises. Assuming all of it is outside the tax net, the consumption demand from the households that are part of it will be second- and third-order effects. Further, how many of them are really in the supply chain of the formal sector and hence now feel compelled to register (for GST) and hence face a big rise in operating costs is an important question. Most of them are likely below the Rs20 lakh limit for registering for GST. The average GVA per enterprise per annum is a little under Rs2 lakh. In rural India, it is Rs1.06 lakh and in urban India, Rs2.62 lakh. So, a very big chunk of them are unlikely to be affected by GST.
The real challenge is with the so-called registered suppliers (who are covered by the Annual Survey of Industries, for example) but who were still otherwise evading taxes. They are now caught in a bind. Their plight could have both economic and electoral consequences. However, a realistic bet is that they would have to comply because their own buyers would force them to do so. Some responsiveness on the part of the government would help. That happened partially on 6 October in the GST council meeting. If the GST council becomes more proactive and less risk-averse, compliance can increase even faster. So, on balance, one can be positive about the long-run impact of GST on the economy. Even in the short run, it can be positive if the gains for the “big boys” (large firms) exceed the costs for the “small boys”.
Demonetisation is a different story. That has a big bearing on the informal sector because it is entirely cash-based. That touches directly the lives of people in the informal sector. How many of them, once they dropped out of economic activity for want of cash for a month or two, could resume it, we do not know. This newspaper carried a report on the impact of demonetisation on microfinance. But the analysis only extended up to the quarter ending March 2017. Social and economic dislocation of specific segments of the population has been substantial. If normalcy could not be restored in their lives and they went back to being “Below Poverty Line”, they would be angry and their initial “schadenfreude” at the rich would have given way to bitterness and anger towards the ruling party. The government had calculated that cash not returned could be used to compensate them. Things turned out differently. That will increase economic policy risks next year.
In sum, has the growth slowdown already witnessed accounted for all of these and will the base effect no longer be negative? That is a judgement call. It is a reasonable argument that the economic slowdown that is already being witnessed, from 9.1% (year-on-year real GDP growth in the quarter ending March 2016) to 5.7% (in the quarter ending June 2017), has accounted for almost all the growth headwinds. Hence, in the final year before elections, economic activity could be re-accelerating. But risks to this view are considerable.
The next budget and monsoon will be big factors. Tax administration has been one of the big causes of the slowdown and is a future risk too. Income-tax demand on the settlement money that DoCoMo received from the Tatas sounds like textbook sabotage of Japanese interests in India. There is another risk too. If it comes to pass, that would most likely extract a toll on the economy after 2019.
The risk is that the government, to assuage the anger and alienation in the informal and small-but-formal segments, will unleash considerable financial and monetary bounties in 2018-19. If it happens, it could be a replay of what happened in the United Progressive Alliance years. Growth could accelerate more strongly but with the consequences of overheating post-2019: inflation, current account deficit and a much weaker currency.
V. Anantha Nageswaran is an independent consultant based in Singapore. He blogs regularly at Thegoldstandardsite.wordpress.com
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