The spectre of yet another global slowdown looms large on the horizon as the US and China edge precariously close to a full-blown trade war and tensions in West Asia threaten to erupt in oil price volatility.
Closer home, early trends in 2019 also do not bode well for the domestic economy. Headline economic indicators have taken a beating during the year. For the January-March quarter GDP slipped to a near five-year low of 5.8 per cent, the unemployment rate climbed to 6.1 per cent, the highest in 45 years, and the three-month average IIP (index of industrial production) remained subdued at 1.2 per cent. To add to the woes, passenger vehicle sales, a sensitive indicator of consumer demand, is also in deep trouble, with May sales recording the steepest decline in almost 18 years, prompting major auto-makers like Maruti Suzuki and Mahindra and Mahindra to resort to temporary factory closures.
Sustainable changes
The task for the government seems challenging, given the rising clamour to take decisive steps to re-energise growth. Typically, the standard response to such slowdowns has been to provide an endorphin shot, in the form of relaxed credit policies, rate cuts, and accelerated spending. However, time and again, history has shown that such measures have been myopic, akin to perhaps band-aiding a deep internal wound.
The need of the hour is structural economic reforms, aimed at bringing about systemic and sustainable changes. There are three key areas which need specific intervention — addressing the credit crunch by reform of the financial sector, accelerating industrial growth, and boosting consumption.
NBFC issue
Banks and NBFCs account for the major share of funding to India Inc. However, over the past few years, lack of effective internal controls and slack external regulations have not only resulted in banks coming under severe pressure from mounting NPAs, but also pushed several NBFCs into an imminent liquidity crisis, leading to a severe lending paralysis. The current situation calls for government intervention in managing the fallout, while avoiding the lure of bailouts. A three-pronged strategy is needed — regulation, consolidation and disinvestment.
To begin with, the NBFC sector, now outside the RBI’s jurisdiction, needs to be brought within the regulator’s purview. Alongside, radical reforms in the banking sector should be implemented. About 90 per cent of the NPAs lie on the balance sheets of public sector banks, plagued by issues of corporate governance, political interference, and favouritism.
The existence of about 20 PSU banks also creates additional administrative challenges. The government needs to bring about rationalisation in the number of banks through consolidation and, at the same time, raise private capital through divestments. Increasing private capital in banks will bring about stronger accountability and governance, while reducing the need for asset recapitalisation.
The second priority is the need for advancing industrialisation. Over 10 million people are expected to join the workforce each year by 2030. While a lot has been discussed about the advantages of this ‘demographic dividend’, herein also lurks a potential crisis if adequate employment opportunities are not made available.
Capital for MSMEs, tax reforms
Agriculture, which accounts for 44 per cent of the labour workforce, is already saturated and offers limited opportunities by way of additional jobs. Services is expected to add jobs, fuelled by the e-commerce and logistics sectors; however, this growth is intrinsically tied to expansion of the manufacturing sector, which will need to pivot exports and domestic consumption. The ‘Make in India’ initiative is a right step in this direction, but the government needs to continue pushing for further development by providing capital for MSMEs and decreasing removing the hurdles for foreign investors setting up manufacturing units.
The third critical aspect involves framing policies to boost private consumption, which accounts for 60-65 per cent of India’s GDP. The government needs to follow-through on tax reforms initiated in previous term, further simplifying the tax assessment process and increasing the exemption bracket to provide middle-class with higher disposable incomes. It can also offer lower corporate tax rates and tax credits to companies that provide pre-determined minimum wages.
Strong framework
Finally, the government needs to develop frameworks to enable an ecosystem of digital transaction including P2P lending, which can reduce barriers towards consumer spending and increase access to credit.
It remains to be seen if the government has the political will to bite the bullet and implement the strategies needed to bring the economy on to a long-term growth trajectory. The strong electoral mandate definitely bodes well for initiating reforms. However, in a democracy such as India it is also far too easy to fall back to safe measures given a few State-level electoral reverses.
(The writer is a student of EPGP 2019-20 at IIM Bangalore.)