Photo: Bloomberg
Photo: Bloomberg

Opinion | A close look at the economic slowdown reveals its origins

The third anniversary of demonetization is a good time to review lessons from our policy mistakes

Most indicators of economic activity for the July-September quarter are now out. The message is clear that despite the sectoral tweaks and announcements, the economy does not appear to be reviving. The reason that these efforts are failing lies in the approach of a government which seems reluctant to acknowledge the mistakes it has made.

The current crisis is primarily a result of the missteps and misadventures of the National Democratic Alliance regime over the last five years. The anniversary of the biggest of these misadventures, demonetization, is the best time to recount the 10 biggest missteps. The first moment of reckoning was the sharp fall in petroleum prices in August 2014, which offered windfall gains to the government. Unfortunately, this came along with a sharp fall in prices of agricultural commodities that broke the back of farmers, some of whom committed suicide. Instead of recognizing the crisis and passing on benefits of the windfall to them through reduced input prices, the government chose to fritter away the gains.

This was followed by the double-drought of 2014-15—a rare occurrence that deepened the agrarian crisis. The second misstep was to ignore this. The natural response of any government during a double-drought and a collapse in farm incomes because of low international prices ought to have been to raise, or at least maintain, domestic prices, and increase investment to support farmers. The Centre’s response, on the contrary, was to reduce real investment in agriculture drastically. This was the third misstep, and a costly one.

By early 2016, it was clear that the rural economy had slipped into a crisis, with real wages and farm incomes declining. The response of the government, articulated by Prime Minister Narendra Modi, was to pronounce the National Rural Employment Guarantee Scheme (NREGS) a “living monument" of the failures of the erstwhile United Progressive Alliance government. At a time when the government should have used public expenditure to revive rural wages and demand, squeezing NREGS and other rural development expenditure was the fourth misstep.

This was followed by the fifth misstep (rather, a misadventure): demonetization, whose third anniversary is today. It broke the back of the informal and rural economy. None of its stated objectives were achieved, though it did create long-term distress, the after-effects of which are still being felt through the decline in demand and rise in unemployment. The sixth misstep was the hurried implementation of the goods and services tax, which destroyed any remaining hopes of a revival of the informal economy. It led to the closure of many enterprises, causing job losses that still haunt the sector.

The seventh misstep was the short-sighted response to the agricultural crisis. Loan waivers were preferred over other reforms because of political expediency. This led to election victories, but agricultural support by state governments fell sharply as they struggled with large payouts of loan waivers. The eighth misstep, also an outcome of political calculations, was to give cash doles just before elections. These may have benefitted the central and state governments, but pushed them into a fiscal crisis, squeezing any space for meaningful reforms, despite their urgency being at a peak.

The ninth misstep was the effort to correct its fiscal mismanagement by generating revenues through coercive measures of the tax administration and unnecessary interventions such as the capital gains tax. These did not lead to any significant decline in corruption or black money, but created fear and panic among financial institutions and corporations, leading to a decline in investment and corporate credit.

The 10th misstep has not directly contributed to a worsening of India’s economic situation, but has certainly created mistrust among stakeholders of the country’s statistical system. Attempts at suppressing and manipulating data have been detrimental to academia, media, and also policymakers who are supposed to make policies based on facts and not beliefs.

This list of missteps is not exhaustive but holds lessons for what could be done. While some of these cannot be reversed, the least that the government could do is recognize the gravity of the crisis. The third anniversary of demonetization should serve as an opportune occasion to remind ourselves of the catastrophe caused by these misadventures, based as they were on beliefs and not facts.

Himanshu is associate professor at Jawaharlal Nehru University and visiting fellow at the Centre de Sciences Humaines, New Delhi

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