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In the last couple of days, I participated in the launch of a new book, The Economics of Derivatives, published by Cambridge University Press, in Bengaluru and Chennai.

As a co-author, I felt privileged to have the book launched by couple of good former policymakers. One of them remarked that the best way to make progress in the acquisition of knowledge and expertise—whether one was a regulator or an ordinary individual—is to acknowledge how much one did not know. These are golden words to remember for as long as one lives.

Jahangir Aziz of JPMorgan, in an interview to Mint, had expressed his concern at the dilution of the commitment to fiscal consolidation reflected in the budget numbers. It is hard to agree with him. The budget deficit target of 4.1% for 2014-15 was utterly unrealistic because the true deficit left behind by the previous government was around 6%. This government has pursued fiscal consolidation to an unusually large magnitude at a time of uncertain economic outlook. That said, the fiscal chain has not been shaken off in the 2015-16.

Notwithstanding projections of around 8% real gross domestic product (GDP) growth in 2015-16, at least a couple of industrialist-friends confessed they do not see any material pickup in demand on the ground. Public response to new equity offerings is underwhelming. The Central Statistical Office has not been able to persuade too many that its new growth estimates are credible. In 2013, the International Monetary Fund had estimated that India’s potential GDP growth had slipped to around 6.5%. It is hard to believe it has changed much in the last two years. If so, the growth estimate of around 8% suggests the economy is overheating. It makes the case for pushing the policy interest rate up and not down.

Of course, not only anecdotal evidence but trends in India’s current account deficit do not suggest the economy is overheating.

Therefore, it is possible to argue that the potential GDP growth rate in the economy has also increased to 10% due to the methodological changes, bestowing some credibility to the claim that India’s economy is growing below potential. Even so, if 8% growth rate stretches credulity, a 10% potential growth rate estimate will wipe out the last vestiges of credibility in India’s economic statistics. Policymakers are flying blind with respect to the country’s economic status.

In this situation, if the clamour for sticking to a fabricated fiscal consolidation is wrong, it is equally puzzling to witness the strident calls for aggressive interest rate reductions. At one level, such suggestions are consistent with the picture of a sluggish and struggling Indian economy painted above. However, if that makes the case for large interest rate cuts in India, it leaves the assumptions on India’s growth rate and tax buoyancy made in the budget gravely suspect.

On another note, it also makes sense to cut rates if the aggressive monetary easing is pursued by other countries in Asia—South Korea cut rates last week—leads to excessive currency appreciation in India. That is not yet the case. India’s real effective exchange rate (REER), published by the Bank for International Settlements (BIS), puts the value at 91 in January. The base year is set to 2010 equals 100.

Yes, India’s REER has appreciated in the last one year but that happened after a steep slide in 2013. To claim there is excessive appreciation of India’s REER, one has to have good data on labour productivity in India. That remains elusive. In any case, the Reserve Bank of India (RBI) has been intervening in foreign exchange markets to ensure stable exchange rates and to avoid overvaluation. It is reasonable in the light of beggar-thy-neighbour exchange rate policies pursued by Western countries and now increasingly by those in Asia-Pacific.

At the same time, the case for a domestic rate cut is considerably weakened when one notices the sharp divergence between uncertain economic conditions and a buoyant stock market. After all, one of the criticisms against a strict inflation-targeting framework is that it ignores financial and economic stability considerations. Aggressive rate cuts at this stage raise the risk of more frequent asset booms and busts in India.

What should the government do in this situation?

One, it should recognize the scope for the law of unintended consequences to play out if drastic action in one particular direction is pursued. Second, it should not browbeat other institutions into taking action that could have adverse consequences in the next three to four years for growth and inflation. If that happens, this government’s chances of being re-elected in 2019 may well become impossible.

In an environment of weak growth, immigration and interest rates have been easy targets for governments around the world. They are not necessarily always the correct targets. India’s judicial hyperactivism and forced fiscal consolidation could be bigger hurdles for the revival of private capital formation and economic growth than the interest rate policy of RBI.

V. Anantha Nageswaran is co-founder of Aavishkaar Venture Fund and Takshashila Institution.

Comments are welcome at To read V. Anantha Nageswaran’s previous columns, go to

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