If you can’t act when oil is at $30/barrel, when will you: Jahangir Aziz10 min read . Updated: 20 Feb 2016, 01:15 AM IST
The JPMorgan Chase chief Asia economist on why India should focus on domestic consumption
The JPMorgan Chase chief Asia economist on why India should focus on domestic consumption
Singapore: India and other emerging economies have to accept that the era of export-led growth has ended and find new sources of demand, says Jahangir Aziz, chief Asia economist at JPMorgan Chase and Co.
India, he said in an interview, should focus on domestic consumption. “We should say that the exports that we’ve been doing during the last 10 years are no longer in demand and, therefore, we need to change, or we need to turn around and say, we have 250-300 million middle class, who are reasonably wealthy and are perfectly happy to pay for goods and services, and let us address their needs," he said.
Prime Minister Narendra Modi recently said India is the only economy that has not been affected by the global economic crisis, and reasoned that it was due to the policies being pursued by his government. Do you agree?
While some part of Modi’s comments are true—saying that we have not been affected is stretching the data points. Exports are falling for 18-19 months straight, and lack of external demand, and lack of support from exports, has taken away a significant portion of India’s GDP (gross domestic product) growth.
Are you saying the Modi government, too, has shied away from making difficult choices, and is instead continuing with a traditional approach to wait it out, and hope growth will come back without having to do much, as global situation improves?
Let us not compare the two governments and focus on the Modi administration. The current government, along with governments in every other emerging market economy—barring China, and that is ironic as most of the nervousness is regarding China today—all appear to be in denial that the current global slowdown, which has now lasted almost seven years, is temporary. Every year since 2010, global trade has fallen—and global trade has fallen even during the four-year period to 2013, when commodity prices were rising. The massive increase of globalization from early 2000 to 2008, coincides with the period in which emerging markets, be it China, India, Brazil or South Africa, had their best years. The decline in global trade since 2010 mirrors the decline in growth in emerging market countries. If after 6-7 years, policymakers still think it is temporary, and are not taking this decline in global trade as a structural shift in the world, they are not looking for new sources of growth. They are all doing patch work—whether through fiscal policy or monetary policy and hoping all this will go away, and we will go back to pre-2008 period, which was driven by massive expansion of globalization and manufacturing. The old export-led growth model, where India and other emerging markets invested to create capacity, but almost all this capacity was absorbed by foreign demand and not domestic demand—the belief is that this growth model is intact. By now it should be very obvious that this model is dead—the supply chain is broken. Emerging markets along with India, if they are to go back to any reasonable level of growth in the medium term, they have to necessarily find new sources of demand, and they have not done it so far.
So, what is the course correction that is required by India to get back to growth?
They have to first acknowledge there is something wrong with their global view on which they have been basing policies for the last two years. The policies over the last two years have not yielded any results. There has been monetary easing by some 125 basis points. (One basis point is one-hundredth of a percentage point). Fiscal deficit reduction was abandoned last year—when it should have been at 3.5%, it was at 3.9%, and argument was that since private investment was not picking up, if public investment picks up, the latter will crowd in private investment and also corporate investment.
Public investment did go up, and corporates just looked at it and shrugged their shoulders and walked away. This fiscal, corporate investment will be negative—it will decline, given that growth is slowing. Ask any corporate (entity), and in private they will all tell you the reason to have shelved their expansion plans is not because they can’t get land, or that labour reforms have not been implemented or that cost of capital is high—instead, they will all say there is no visibility of demand, and until there is visibility of sustained demand over the medium term, regardless of reforms on the cost side, it is very difficult for them to invest.
Proof of the pudding is in the eating—look at the areas where there is sustainable demand, and in those areas, corporates are putting in significant investment, despite the fact that land is not available or labour problems are there and that capital costs are high. The very first step is, this government must acknowledge that their global view over the last two years is wrong, and acknowledge the new global view, where you can no longer rely on the old export-led model, and that you have to find new sources of demand. Only then can you have a reasonable conversation on what these alternative sources of demand can be.
There are a huge number of steps the government can take without even getting into reforms. The budget is two weeks away. If you believe that you need to find new sources of demand—be it more for domestic consumption, or it can be for the new kinds of consumption that ageing populations in Europe and US and now even in China need.
It is not that consumption has come down in the world, but that they are consuming things differently. When you are 15 years old, you would buy every new iPhone that comes in the market, but when you are 65, you don’t really care. But rather, you do want to spend your money on expensive vacations and good hospitals. You are willing to pay big amounts of money to be comfortable.
Health industry requires huge amounts of manufacturing, but we are not producing catheters or fancy hospital beds. In fact, all our catheters or hospital beds are imported. The one-child policy in China has led to the realization that if something goes wrong, there is no sibling left to basically take stem cells to grow organs back. The number of people in China, who are spending seriously large amounts of money to preserve their stem cells, hoping that by then, medical science would have found a way to convert their stem cells into organs is seriously high. All of them require Cryogenic freezers—we are not building this. We should say that the exports that we’ve been doing during the last 10 years are no longer in demand and, therefore, we need to change, or we need to turn around and say, we have 250-300 million middle class, who are reasonably wealthy and are perfectly happy to pay for goods and services, and let us address their needs.
Look at the expansion of the Flipkarts and Snapdeals into smaller cities. We need to move towards greater consumption, and for that we need to restructure the Union budget completely. You cannot have a budget whose only aim in life is to get whatever it has to pay on the current account and immediately turn around and do infrastructure.
You will need to now start spending on restructuring and reforming the areas where Indians save the most—for their children’s education, housing, daughter’s wedding and healthcare. If you look at out-of-pocket expenses on health and education, they are astronomically high in India. The government needs to start attacking the areas where precautionary savings are the highest. Education and health are readily and easily observable areas where people put in massive amounts of savings and, therefore, the government should be putting in money here, rather than infrastructure.
We need a better balance between infrastructure and pushing money into education and health. The biggest expenses are for higher education and not for 12 years of schooling—where you spend ridiculous amounts for private colleges and universities. This is because the centre has not met its responsibilities of building places of higher education.
India is a strange country, where if you buy an insurance product, the liability of insurance company is capped, depending on the premium. The individual bears the entire residual risk, but in any model of insurance, it should be the company that can spread out the risks and, therefore, it should take residual risks. I am making it sound simple, but if the government is serious about it, the government should say that for insurance, the residual risks will be on the company and not individual, and your out-of-pocket expenses will be limited. When I know that my out-of-pocket is limited, then I don’t have to save this insane amount—currently, I don’t know how much I need to save for my bypass, if I need one, when I turn 75.
If you look at infrastructure design in India, we are expanding ports and connecting them to hinterlands, we are expanding airports, we are connecting the metros by expanding the Golden Quadrilateral. But no one talks about, say a 10-lane highway from Kanpur to Coimbatore. There is no way I can go from Kanpur to Coimbatore without going through either East Coast or West Coast. These large investments make sense only if we believe that the export-led model of growth that we had in the early part of 2000s will come back. But if exports won’t come back, why are we even bothering with new ports.? From infrastructure design to mindsets, all has to be changed if we need to find new sources of demand, and this new source is domestic consumption. This new demand will get me the corpus to start investing, and that will generate growth.
The debate now is whether deficit should be higher than 4% to provide a stimulus. But if gross domestic product (GDP) growth is over 7%, why are we talking about a stimulus?
Everyone has serious concerns with these GDP numbers. You saw the monthly industrial production numbers that came out in December—we barely registered a growth, but in GDP figures, our manufacturing grew 12.5%. Growth is softer than what these numbers are saying. We have seen what 7% growth felt like in 2007. Simple question—does 2016 feel like 2007? Therefore, the need for stimulus. If you look at this year, diesel prices in India is equivalent to $64/barrel. Oil on an average is at $30/barrel. If oil prices had been slashed proportionally, it could have released a lot of funds for households to start spending again, because it increases your real disposable income.
More importantly, it would have reduced inflation rates, and by RBI’s own estimates, by another 100-odd basis points. We would then have cut nominal interest rates by another 100 bps. Had government passed on the benefits of lower oil price, it would have led to inflation being down by another 100 bps, and rate cuts of another 100 bps from where we are today. Oil prices alone contributed an additional 0.5% to the GDP numbers budgeted in February last year—so what did the government do with that additional 0.5%?
It now did not have to meet its disinvestment targets. With this 0.5% more, we did not gain much in growth, but clearly lost out in inflation. On the other hand, the stock market may have gained a lot from another 100 bps of rate cuts. Come to this year—many say they want to see deficit go up to support growth. Think about how incredulous this statement sounds. Last year, you said the same thing—you said you were not going to cut to 3.5% now, and that next year, you’ll do it. Here comes next year, and you are now saying you can’t cut this year too, and instead are talking about a stimulus. If you cannot act when oil is at $30/barrel, when can you do it?
Second, you used fiscal policy as a counter cyclical—this is only when you believe the slowdown that you are trying to support is not permanent, but is temporary. But if this is a permanent slowdown, then fiscal support only raises the debt. Last point, we did try this in 2009, when we put out 3% in additional fiscal support, and fiscal deficit went up, as then we did not take it out. We did not take it out even when growth was 10-12%. Just like this government got a windfall from oil this year, in 2010, we got an additional 1% to GDP from 3G spectrum auctions, and despite that we did not cut budget deficit, and we saw what it led to in 2013. We’ve tried the same thing with disastrous results and yet people are saying, let us do this again.