New Delhi: Chief economic adviser Arvind Virmani, who turns 60 next month, is barely six weeks from retirement. He took time off from work on preparing the Economic Survey, which will be tabled in the 15th Lok Sabha ahead of the budget, to share his thoughts on what he describes as India’s second instance of a demand-led economic slowdown. Edited excerpts:
Where do you see the economy placed at this point in time?
The first thing you have to remember is there is a global situation which comes from outside. Given that, what is our outlook? What I call the optimistic forecast, which I gave in March, is that when the global economy—in particular, the US economy—bottoms out, the speed at which it recovers is less important. It seems (from) the scenario, (that) the US and the global economy will bottom out in September. In that situation, I expect a U-shaped recovery in terms of quarters (quarter-on-quarter), resulting in an average growth for the year as a whole that is about the same as last year (2008-09).
Crunching numbers: Virmani says the proposed fiscal stimulus is enough. Harikrishna Katragadda / Mint
The second scenario...is the World Bank, IMF (International Monetary Fund), everybody, saying, “Things are much worse than everybody thinks, and we will not have a bottoming out of the global economy till Q1 (first quarter, January-March) of 2010”. (This) pessimistic scenario is also possible, and it is a credible scenario. Given the pessimistic scenario, our growth would be 6%—plus, minus 0.5% (range of 5.5% to 6.5%).
I prefer to keep these two separate. The implications could be different in the two situations.
How bad are the pressure points in terms of fiscal deficit?
From a macroeconomist’s perspective, the issue is not how bad or how good the fisc is. There are two issues which are relevant. One is, what is the fiscal stimulus required this year? And secondly, how can we make sure we get back to the FRBM (Fiscal Responsibility and Budget Management) targets?
The budget as presented (in February) had a (fiscal) deficit of 5.5% (of gross domestic product). There were some announcements of tax reductions, adding roughly 0.5% of GDP (to fiscal deficit). In the speech it was mentioned social infrastructure may require 0.5-1% of GDP. If you add that all up, it become 6.5-7% of GDP, which I would say is a stimulus of 3.5-4% of GDP (compared with fiscal deficit of 2.7% recorded in 2007-08).
(In) my judgement that is broadly enough, given these two (growth) scenarios. I am beginning to see some contradictions in what people are saying. You can’t be over-optimistic beyond my optimistic scenario and then say we need a huge stimulus. That is contradictory. These are the things the new finance minister in consultation with the Prime Minister will decide.
Have the stimulus packages already announced begun to kick in?
I don’t have specific information on that. Among things that would have acted quickest are things decided in February (2008) and paid out October (2008) onwards: the (farm) loan waiver money and the arrears of pay (to government employees). The arrears of pay...the first step of that was there in Q3 (of 2008-09) data...that is the huge increase in government value added (of GDP). The first-round effect would (depend on) how the government servants spent it. The fact that consumer durables was one of the sectors less affected in Q4 (of 2008-09) IIP (Index of Industrial Production) data suggests they are spending it. With all fiscal stimulus, there is the multiplier. In a sense, we will see the second round in the first quarter of this year.
People have talked about lags of one year and more. Nothing happens instantaneously. This is different from relief to specific sectors.
As chief economic adviser, what is the point of concern and the point of optimism in the economy for you?
I can speak about the issues as I see them. In my view, the proposed stimulus is enough. Automatically, the next area of concern is how to get the growth rate back on the high growth path. That is not a trivial exercise. As my study of high growth economies has shown, what distinguishes high growth economies from others is that when they are subjected to shock, they take counter-measures to make sure that they go back to the high growth level, while other (economies that) also have high growth for a period get knocked out.
So, one does not want to be in the second group; one wants to be in the first group. That requires analysing the characteristic of the high growth period, seeing what has been the effect of the global shock and taking corrective steps. There are three or four areas of reform which follow from this analysis. Those are fiscal reform, financial market, investment environment and energy. If we look forward to a revival of the global economy, (which) consequently will have a positive impact on the Indian economy in addition to whatever we do here, then it is very necessary to go back to the FRBM targets, perhaps from next year. So you need to start putting in place fiscal reforms which will allow you to do that.
In the financial sector, if capital flows are going to be low, then financial sector reform becomes very urgent. Even in the long term, we need to improve our financial markets.
The third is the investment environment. We need to act on the constraints that are hindering investment, which include FDI (foreign direct investment) limits, etc. Reforms also include education, because you need to develop skills that will improve the investment environment. In my view, it is the relatively poor who will gain from educational reforms.
And lastly, energy. I fear that as soon as the global economy recovers, oil price will start rising. So this is the time to do some of the decontrol and liberalization (in the oil sector). As you have seen, oil prices have already started rising. So time will run out at some point. So that has great urgency.
How would you react to the Reserve Bank of India (RBI) governor’s last policy speech, where he said the challenge would be to unwind the fiscal stimulus measures?
I really don’t want to comment on anybody else’s statement, including those of the RBI governor’s. The issue is not of today, the question is, what happens after the crisis passes? As long as the crisis is there, the criteria is different. It’s globally different. The question is, are fiscal targets being abandoned? No, definitely not. FRBM is a law, we must abide by it and we must get to it. This (what is happening now) is an exception. One way to raise that credibility is by instituting reforms: on subsidies, expenditure, etc.
On the financial sector front, there are reports such as those by the Deepak Parekh committee and the Percy Mistry committee. Do you think this is the right time to implement their recommendations or should one wait for the economic crisis to subside?
I don’t want to comment on which things to implement. That, the government will decide.
You cannot have regulatory incompetence. But we never had it. As far as markets are concerned, there are a few lessons (from the global financial crisis). But what it means (is) that we have to go faster because market reform is needed. If we want to make sure the potential savings in the economy are available to those who want to invest; otherwise, you will not go back to the high growth rate. The corporate debt market, the long-term debt market are clearly things that need to be developed if you want to accomplish this purpose. But our focus should be on exchange-traded derivatives, not on over-the-counter derivatives.
On the inflation front, do you think the underlying inflationary pressure in the economy is still high, or is that not a concern for now?
There is this issue of WPI (Wholesale Price Index) versus CPI (consumer price index). We do not have a universal CPI (India has several consumer price indices), so the closest thing we have is the CPI-IW (for industrial workers). It is reasonable to assume that inflation is somewhere between the WPI and CPI-IW. My personal judgement is that inflation is not a serious problem for this year. WPI is between zero and 1%—that means commodity prices are coming down. But I do not see deflation (in India).
Once we have a unified CPI, do you think we should migrate to a CPI-based inflation system?
Yes, it has to be. Nobody in the world uses WPI. They have something called Producer’s Price Index (PPI), which is somewhere in the background for analytical purpose. As far as inflation is concerned, globally everybody uses a CPI.