New Delhi: Five years ago, when the Lehman collapse triggered a domino effect across the world, emerging economies like China, India and Brazil were celebrated for their ability to hold their own. However, the perceptions have been dramatically reversed ahead of the fifth anniversary of Lehman’s bankruptcy, on 15 September, with the emerging economies now fighting for survival. One can’t help but wonder how things could have gone so wrong.
In the case of India, the palliative—the massive fiscal stimulus of Rs.1.86 trillion—became the proverbial millstone around its neck. That’s something that finance minister P. Chidambaram refers to (indirectly indicting predecessors who oversaw the stimulus) in his moments of exasperation when fending off vexing questions on the fiscal slippage.
The projected fiscal deficit, or gross borrowings of the Union government, of 2.5% of gross domestic product for 2008-09 actually turned out to be 6%; in the following year there was another slippage with the actual fiscal deficit at 6.4% as opposed to the projection of 5.5%.
Avoiding one crisis actually sowed the seeds of the present fiscal crisis—something which, rating agencies argue, could lead to the downgrading of India’s sovereign credit rating to junk status. In short, the country is facing up to its fiscal karma.
To be sure, however, in retrospect, things may not have come to such a pass if it had not been combined with the policy paralysis that afflicted the Congress-led United Progressive Alliance (UPA)—it has spent almost all of its second tenure fighting off distractions forced upon it by alleged acts of corruption in high office.
Further, what has happened—and this is not unique to India—since the Lehman crisis is that governments have been overwhelmed by their fiscal karma, leaving the onus of managing the economy on the central bank. And this is structurally not sustainable. This is precisely the underlying thread of the recent differences between the Reserve Bank of India and the ministry of finance—though some have sought to pass this off as some kind of personality battle.
If one was to look at the economy as an airplane, then one of the engines has effectively stopped functioning. Obviously, manoeuvring an aircraft on one engine through turbulent weather—in this case a volatile world economy—is not just difficult, but hazardous.
While this is a trend evident elsewhere, the India story could easily have been different. The problems forced upon the country by the Lehman crisis were compounded by the fact that the government was operating with an outdated governance structure that was unable to respond adequately.
And in this the UPA is particularly culpable, because some of its ministers have even sought to undermine existing institutions—tantamount to operating with a 1970s mindset of command-control in the 21st century. Not only did they fail to make the transition to a rules-based regime that would ensure more transparent governance—something that would have helped avoid the raft of corruption scandals—their defensiveness only forced a policy gridlock in the country. Several infrastructure projects, especially roads, have been locked up precisely due to these reasons.
The consequent governance vacuum led to a more dominant role for the judiciary; decisions that would in the normal course have been taken by the executive were now being carried out by the judiciary. The outcome was obviously far from optimum—especially with decisions that forced a blanket ban, where an executive action would have been far more calibrated and pragmatic.
In the final analysis, it is clear then that the Lehman crisis did two things. One, it set in motion the makings of a fiscal crisis, which has only been compounded by the rapid slowdown of growth, squeezing tax revenue. Second, and more importantly, it has exposed the structural flaws in the country’s governance structure. If there is an urgent lesson to be learnt in the luxury of hindsight, then it is precisely this: governance reform.