India may be on the verge of falling into a debt trap, Atradius’s Michael Frigo
Frigo says the biggest with India is that the country has failed to recognize is the massive govt borrowing and consequent debt pile-up
Singapore: The biggest issue that India has failed to recognize is the massive government borrowing and consequent debt pile-up, and the country may be on the verge of falling into an internal debt trap, Michael Frigo, country manager, Singapore, Atradius Credit Insurance NV, said in an interview. The National Democratic Alliance (NDA) government’s upcoming budget must tackle the issue and attempt to drastically reduce subsidies, Frigo said. Edited excerpts:
In your recent report, you’ve said that India’s real economic growth is expected reach 6.5% in 2015. What will drive this growth in the medium term?
Positive business sentiment coupled with increased household demand and manufacturing output will drive growth to 6.5% this fiscal year.
Overall, India is expected to increase growth and to experience lower inflation this year. The country is already experiencing this as demonstrated by its performance in 2014, with the real economic growth reaching 6.0%. In the medium term, India is anticipated to rebound against its economic growth deterrent through its growing middle class, high investment, urbanization and improvement of the business environment and more structural reforms.
The demand for consumer goods and opportunities for domestic and foreign investment brought about by India’s growing middle class population of around 70-100 million makes it a market which international companies cannot afford to ignore. If these international companies will consider setting up shop soon and invest in the Indian market, the move will greatly help achieve the expected real economic growth reach of 6.5% in a shorter period.
The decline of public debt is also notably significant. If it continues its momentum of exponentially declining like what it has already achieved over the past couple of years, it brings down with it its contribution to the central budget deficit which stands at 4.5% of India’s GDP (gross domestic product) last year.
The resumption of stalled infrastructure projects will also help boost India’s growth, especially considering how the industry sector continues to be one of India’s most important sectors—contributing 29% of GDP in 2013.
So, when do you see India moving from the expected 6.5% growth in 2015 to the 9% annual growth rate that it briefly enjoyed before the financial crisis? What needs to be done?
It may take little or a lot depending on how the government will act upon it. India can still be considered a large market with high growth potential. It is easy to recognize that its country and sovereign risk still remains low since it does not heavily rely on foreign debt which only amounts to 20% of its GDP. India is also currently enjoying a comfortable liquidity situation and the current account deficit is relatively small.
Generally speaking, the (Narendra) Modi government is sending out the right signals for now as the “ease of doing business” in India was the biggest hurdle in the past for increased investment. The Modi government has stressed the fact that they will try to make doing business in India a lot easier and will do away with unnecessary bureaucratic hurdles that impair business growth. This, coupled with labour reform that the government is talking about, will go a long way in ushering a period of heightened growth. However, 9% growth is still some time away perhaps at least 5-6 years from now.
Further, the reforms around structural deficiencies has been significantly slow. If India’s many structural deficiencies like underdevelopment of the agricultural sector, poor infrastructure, inflexible labour laws, excessive bureaucracy, rigid land laws and shortage of skilled labour due to poor education of most of the population are surmounted by radical steps from the administration—these will help break down barriers to foreign investment. And, in turn, will set the stage for increased flows of foreign direct investments which will eventually lead to higher growth.
India will need to break down some of these political and economic barriers in order to move towards a more sustained 7-8% growth rate within the next three to four years.
Are you of the view that so far, the Modi administration has imposed only incremental reforms, and that it has shied away from major steps? So, what according to you are the major steps he should be taking?
The Modi government is now in a period of consolidating its position within the centre and the states with a few states yet to go in for elections. The Union budget could be a starting point through which some big reforms may be announced. Already we have heard of large government disinvestments in energy and coal that will garner substantial revenues for the government. Some of the incremental steps taken so far are decontrol of diesel, land acquisition and unified goods and services tax among others that will have positive implications for the economy. Major reforms and initiatives in my opinion should be in public infrastructure and labour coupled with reforms in the health and education sectors.
Expectations of Prime Minister Modi’s willingness to reform still remains very high. Can he meet these expectations? What are the potential risks to the India story?
He seems to have started with incremental reforms and low hanging fruit. One believes that if he pursues his narrative with vigour and sense of purpose, it may indeed be possible. He seems to have the right people for the job so that gives some confidence. His thrust on manufacturing to create more jobs will also have a cascading impact on the rural poor. The risks are sudden global pressures and increased current account deficit which will negatively impact the growth story in India.
What is your India industries’ performance outlook for 2015? Can you elaborate on this?
One aspect of the Atradius performance outlook is derived around the STAR rating at the beginning of each report. The STAR stands for Sovereign Transfer and Arbitrary Risk, a system for assessing country risk. STAR evaluates a sovereign’s willingness and ability to pay. It explicitly measures the impact on public or private entities with cross-border payment obligations. Broadly speaking, the individual default triggers under Atradius’ political risk policy are classed as either sovereign transfer or arbitrary risk.
For India, there is no single sector expected to perform exceptionally. However, the chemicals and pharmaceutical sector, food, paper and, of course, the services sectors are anticipated to perform well this year. Meanwhile, fair forecasts have been given to the agriculture, automotive and transport sector, consumer durables, electronics and ICT (information and communication technology) sector, financial services, machines and engineering sector, metals, steel and textiles sectors. The construction and construction materials industries are expected to take a hit on their performances this year.
It is noteworthy that the most important sector in India, which is the services industry, is still considered to perform positively this year, having contributed greatly to India’s economy in 2013 with 55% of GDP.
India’s agriculture sector, the third most important sector which contributed 16% of GDP in 2013, is somehow expected to perform only fairly this year. More importantly, the expected hit on the performance of the construction and construction materials industry is something to watch out for as it may mean a dip in growth having been the second largest contributing sector to India’s GDP.
When the “100 Smart Cities” project gets to full steam, the electronics and ICT sector as well as the construction and construction materials will stand to benefit. There is still plenty of room to revive infrastructure projects in India and we are already seeing some progress in Gujarati cities, with the Gujarat International Finance Tec-City being a fine example.
What are your expectations from the upcoming Union budget? What measures would you like to see addressed?
The biggest issue which so far has not been recognized is the massive government borrowing and consequent government debt. India may be on the verge of falling into a debt trap. This has to be contained and even better ought to be addressed in the Union budget by drastically reducing subsidies and making India competitive. I would like the budget to address government spending and borrowing which makes the economy unsustainable in the long run.
How big an opportunity is India for investors willing to forget the country’s unpredictable past and bet on the resurgence of its growth?
In the last World Bank rankings on ease of doing business, India sat at the 142nd spot out of 189 countries—not an impressive rank, especially considering its vast potential. Recognizing this crucial issue, the government since then has taken an aggressive approach in turning this image around in order to present India in a positive light with regards to its business climate.
Prime Minister Modi has sworn to ease investment and debunk the perception that India is a tough place to do business, which highlights the nation’s willingness in attracting a greater number of investors. At a recent India US summit where he met US President Barack Obama, Modi had reportedly pledged to ease off on taxes and address concerns about intellectual property that has been known to drive away potential investors.
There are definitely reasons to believe that business climate in India will change for the better, especially considering PM Modi’s ambition to have his country in the top 50 list for ease of doing business. New innovations and investment are encouraged, intellectual property protection will be improved and a complex bureaucracy will, hopefully, be eliminated. It will take some serious measures to follow on from his promises, but taking India’s potential into account, the opportunity remains wide open for investors to plant their seeds in the 1.25-billion-population country.
I believe Modi’s approach has been to address structural reform, one that is desperately needed to have sustainable growth in coming years. This, coupled with a non-adversarial tax regime that spooked investors in the past, has been addressed in great length by the Modi regime—something that investors will take a lot of comfort from. So the opportunity is big and this is currently reflected in the performance of the stock exchange, which has been one of the best performers in the last year. Money will flow in into India but, more importantly, with a majority government in place signalling the right intentions, will help investors gain confidence in the Indian market once again.
What will be the impact of a slowing China on India—the big picture? Will it impact the rupee?
With India being one of China’s main markets for exports—coming in just after the US and the UAE (United Arab Emirates)—the slowdown of China’s economy will have a massive impact on the country indeed, yet the impact works both ways. China’s stagnating growth is the big opportunity for India. Chinese wage costs are only going up and India with its skilled low-cost manpower can have a competitive edge over China provided the government seriously implements much needed structural reform. In sectors such as information technology and pharma, India already has a competitive edge. On the other hand, India may also be negatively impacted as India is as a net exporter of raw material to China and a slowdown in China may have a direct effect on Indian industry.