FM asks why industry is not investing: the answer is simple

The Economic Survey 2018-19 tabled by FM Nirmala Sitharaman in Parliament had emphasised the need to reduce policy uncertainty. Photo: HT
The Economic Survey 2018-19 tabled by FM Nirmala Sitharaman in Parliament had emphasised the need to reduce policy uncertainty. Photo: HT


  • Private investments drove the blockbuster 8%-plus GDP growth in the initial UPA years. They moderated after the global financial crisis and have remained tepid since then.

Finance Minister Nirmala Sitharaman has asked Indian manufacturers why they aren’t investing even after the government has acceded to demands for a corporate tax cut, production-linked incentives (PLI) and other benefits. “Since 2019," she said, “...I have been hearing industry doesn’t think [the environment] is conducive. Alright, the tax rate was brought down. Give PLI? We have given PLI. I want to hear from India Inc.; what’s stopping you?"

The answer is simple: there’s too much uncertainty about the future and too little consumption demand in the economy. Companies are reluctant to invest because consumers are reluctant to spend.

Private investments, one of the key engines of the blockbuster year-after-year 8%-plus GDP growth seen in the initial years of the UPA government, moderated after the shock of the global financial crisis and have remained tepid since then.

There are reasons for this.

First, companies will not resume investing in new factories until they see credible, sustainable growth in private consumption spending. Stubbornly high inflation has reduced people’s consumption spending power. The best response from the government and the central bank would be to focus on controlling inflation and supporting the spending power of poor households that, unlike government employees and pensioners, do not have the cushion of dearness allowances.

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What can the finance minister do to boost household demand?

India’s consumption demand recovery is uneven due to the type of stimulus administered in response to the Covid-19 pandemic. The stimulus, largely credit infusion from the central bank, was poorly designed. The really small companies did not take advantage of it to borrow out of fears that due to uncertainty over the demand situation they could be left with no option but to take on more loans to pay back any emergency bank loans taken to see through the pandemic shock to business.

Instead of providing direct support to small businesses, India focussed on increasing government’s capex, convinced about the higher multiplier effect of its chosen type of stimulus. Government’s capex is important for the long-term growth recovery but healing the small businesses on which large chunk of Indian households depend for sustenance directly or indirectly is more important and that is what must get fiscal policy attention.

Therefore, the government should consider providing direct support to small businesses that saw cash flows reduce to a trickle and costs rising due to inflation. That will make the recovery more broad-based.

In the medium term, however, the finance minister will have to put in place policies for easing India’s legacy jobs crisis. Jobs creation and incomes growth is the best antidote for constrained demand in the economy. To be able to spend more, people have to earn more.

The good news is that an uptick in the gross fixed capital formation (GFCF), a measure for investments as a proportion of gross domestic product (GDP), is visible in the estimates for the first quarter of 2022-23. Its share in GDP improving to 34.7 per cent as compared to 32.8 in the same quarter of the previous year. Simultaneously, private final consumption expenditure as a share of real GDP was also over 3 percentage points higher.

If firms still continue to wait and watch, it is probably because they may not yet be seeing the sort of revival in consumption spending that they need to feel confident about committing investments. Remember, it is possible that the improvement is merely statistical, rather than reflective of a change in the real economy, as the share of government expenditure in GDP dropped.

Corporate leaders and fast-moving consumer goods (FMCG) companies had been cautioning about inflation slowing down spending by consumers after rising input costs forced price hikes for long — as Mint SnapView has pointed out consistently.

This is even more important now that the heightened risk of global slowdown, and even recession, put a question mark over global demand conditions.

Second, companies will wait until there is uncertainty on the macroeconomic front. While India’s macroeconomic parameters seem better than those for most economies at the moment, things can change quickly. After the shock of the global financial crisis too, India had bounced back smartly in the 2000s, and companies had felt confident enough to omit readjusting their investment plans sufficiently. However, the recovery could not sustain. There was a reversal in global demand conditions, spike in global crude prices, and a sharp flare-up in India’s current account and fiscal deficits, as the government of the day over-stimulated the economy. All of which threw awry calculations about companies’ project costs and demand estimates. Borrowing rates shot up as the Reserve Bank of India was late to tackle high inflation. The altered conditions rendered investments and projects unviable, scarring balance sheets of companies and banks — the infamous twin-balance sheets crisis — causing economy-wide pain. Companies want to avoid similar errors of judgement and misreading of the developing situation this time.

Third, investors want to see unshakeable policy certainty. If the policy paralysis during the UPA years was an additional reason that had weakened the post-global financial crisis recovery, what investors fear now is frequent policy flip-flops and policy uncertainty. The Economic Survey 2018-19 tabled by Sitharaman in Parliament had also emphasised the need to reduce policy uncertainty.

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