As one assesses the economic outlook for 2016, it is worth bearing in mind two key lessons that India teaches, over and above that of patience. First, things are never as good or as bad as they are made out to be, and second, the shortest distance between two points in India is never a straight line.

Macroeconomic stabilization is now well grounded, but the problem of assessing the growth-inflation mix continues. Until the new gross domestic product (GDP) methodology was announced, India had a reasonably reliable real GDP growth that was at least in sync with the on-the-ground reality. The challenge, however, was that the central bank was relying on the wrong inflation yardstick (the Wholesale Price Index) to set policy rates.

The problem has reversed following the new GDP methodology and the Reserve Bank of India’s shift to calibrating monetary policy based on Consumer Price Index (CPI) inflation. India is now using the correct inflation yardstick—as is the practice the world over—but is lost over the accuracy of real GDP growth. Economies growing at around 7.5% have a certain spring in their step; this is conspicuous by its absence in India.

The question about the level of growth is different from whether there is incremental improvement in the pace of growth. There is, in my view. However, it is hard to imagine that real GDP growth that is, say, 1-2 percentage points lower (mind that GDP deflator!) than what is reported would have no policy implications.

The government would be perfectly justified in wondering about the palpable disappointment in the air despite some meaningful—though mostly incremental—steps it has taken. A key lesson for the government from this year is the need to do a much better job of managing expectations, which were pumped up to unrealistic levels.

However, once in the driver’s seat, delivery relative to expectations matters. Admittedly, the Modi government either underestimated the complexity of its economic inheritance or overestimated its ability to fix the problems quickly. There has been a healthy reset of the unrealistically high expectations but investors still hoping for big-bang reforms are bound to be disappointed. India’s chaotic democracy is unlikely to facilitate big-bang reforms in the absence of a crisis. However, that shouldn’t diminish the cumulative positive impact of incremental reforms.

Still, the general mood appears less positive than it should be. This is perhaps mainly because of the infectious disappointment over the absence of a quick/strong turnaround in the private capex cycle. India’s investment recovery will be a two-phase process. The first phase will be driven by the delayed investment projects being revived. This is already visible, and has contributed to the acceleration in gross fixed capital formation for three straight quarters. The improving tone of capital goods production and the largely ignored recovery in real credit growth also suggest that activity is gaining traction.

The second phase, which is still uncertain, will need new investments. However, a key input for this will be the turnaround in the corporate profitability cycle. This will take time but should be more visible in fiscal year 2017 (FY17). Overall, growth, based on the official GDP data, should improve to around 8% in FY17 and 8.5% in FY18 from 7.4% in FY16, though the initial pickup will remain gradual and uneven. A recovery in investment and fixing banking sector asset quality woes will be gradual at best.

There is at best only one more repo rate cut left, most likely after the FY17 budget in February. The rupee, which is overvalued on a real effective exchange rate basis, is on track to depreciate to cross 70 against the dollar next year. Investor confidence could get a boost if the government announces—sooner rather than later—either an extension of RBI governor Raghuram Rajan’s term, which ends in early September 2016, or an equally credible successor.

The fate of the goods and services tax legislation in the winter session of Parliament remains unclear, but the recent suggestions from the chief economic advisor’s panel are sensible. The government will meet its FY16 fiscal deficit of 3.9% of GDP, but partly because of the post-budget increases in fuel excise. This year’s fiscal windfall from the collapse in international crude oil prices won’t be repeated next year. There will also be the additional spending burden from the implementation of the Seventh Pay Commission’s recommendations.

Thus, it is highly unlikely that the guidance of the fiscal deficit shrinking to 3.5% of GDP in FY17 will be met. The slippage will probably be complemented by a pro-growth public capex push and some reform measures embedded in the budget so as to avoid spooking investors and credit rating agencies. Hopefully, meeting the fiscal deficit target every other year—after revising it higher—won’t become the new mantra.

It is largely overlooked that the emerging growth upturn, while being gradual, will be more sustainable, of better quality and with fewer imbalances compared with the unprecedented—but unsustainable—acceleration in 2003-08. However, the judicious blending of the ingredients for a potent growth cocktail will take time. Investor patience, though, will be handsomely rewarded.

Rajeev Malik is senior economist at CLSA, Singapore. These are his personal views.

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