India – Managing the Impact of the Global Financial Crisis – Subba is optimistic
Addressing the CII yesterday, Duvvuri Subba Rao, RBI Governor said, “Less than a year ago, much of what has happened in the Indian economy since last October would have been hard to anticipate. I recall, around this time last year, the most frequently asked questions (FAQs) were, what are the factors that put India on a high growth trajectory and what can we do to remain there? Today, the FAQ is, when and how do we get back on to the high growth trajectory? The sharp turnaround in the FAQs summarizes in a nutshell the impact of the global financial crisis on India.”
What is the Outlook for India?
The outlook for India going forward is mixed. There is clear evidence of economic activity slowing down. Real GDP growth has moderated modestly in the first and second quarters of 2008/09, and sharply in the third quarter. The services sector, which has been our prime growth engine for the last five years, is slowing, mainly in construction, transport and communication, trade, hotels and restaurants sub-sectors. For the first time in seven years, exports have declined in absolute terms for four months in a row during October 2008 - January 2009. Recent data indicate that the demand for bank credit is slackening despite comfortable liquidity in the system. Dampened demand has dented corporate margins while the uncertainty surrounding the crisis has affected business confidence. The index of industrial production has shown negative growth for two recent months and investment demand is decelerating. All these factors suggest that growth will moderate more than we had earlier thought.
In addressing the fall out of the crisis, India has several advantages. Some of these are recent developments. Most notably, headline inflation, as measured by the wholesale price index, has fallen sharply though consumer price inflation is yet to moderate. Clearly, falling commodity prices have been the key drivers behind the disinflation; however, some contribution has also come from slowing domestic demand. The decline in inflation should revive and support consumption demand and reduce input costs for corporates . Furthermore, the decline in global crude prices and naphtha prices, if sustained, will reduce the size of subsidies to oil and fertilizer companies, opening up fiscal space for infrastructure spending. From the external sector perspective, it is projected that imports will shrink more than exports keeping the current account deficit modest.
There are also several structural factors that have come to India's aid. First, notwithstanding the severity and multiplicity of the adverse shocks, India's financial markets have shown admirable resilience. This is in large part because India's banking system remains sound, healthy, well capitalized and prudently regulated. Second, our comfortable reserve position provides confidence to overseas investors. Third, since a large majority of Indians do not participate in equity and asset markets, the negative impact of the wealth loss effect that is plaguing the advanced economies should be quite muted. Consequently, consumption demand should hold up well. Fourth, because of India's mandated priority sector lending, institutional credit for agriculture has remained unaffected. The farm loan waiver package implemented by the Government should further insulate the agriculture sector from the crisis. Finally, over the years, India has built an extensive network of social safety net programmes, including the flagship rural employment guarantee programme. These uniquely Indian versions of automatic stabilizers should protect the poor from the extreme impact of the global crisis.
When the Turn Around Comes
Over the last five years, India clocked an unprecedented nine per cent growth, driven largely by domestic consumption and investment even as the share of net exports has been rising. This was no accident or happenstance. True, the benign global environment, easy liquidity and low interest rates helped, but at the heart of India's growth were a growing entrepreneurial spirit, rise in productivity and increasing savings. These fundamental strengths continue to be in place. Nevertheless, the global crisis will dent India's growth trajectory as investments and exports slow. Clearly, there is a period of painful adjustment ahead of us. However, once the global economy begins to recover, India's turn around will be sharper and swifter, backed by our strong fundamentals and the untapped growth potential. Meanwhile, the challenge for the government and the RBI is to manage the adjustment with as little pain as possible.