Economic Slowdown: India critical in global deflationary ecosystem

By Gaurav Sharma

As the global headwinds gather speed, India, a major emerging market economy finds itself at a crucial juncture. The global economy is in a state of flux, even as the world currencies tumble to record levels against the US dollar and the brick wall of China devalues the Yuan in the face of an escalating slowdown in growth.

How will the Indian economy hold up in the midst of falling commodity and currency prices? Will it plunge as China has or does India have the firepower to withstand, or better still, translate the global crisis into a growth opportunity?

The macro numbers present signs of an impending danger to the Indian economy. After the BSE Sensex, the benchmark stock market index, crashed a whopping 1,624 point last week (the fourth largest in the market's history), Prime Minister Narendra Modi had to call a meeting between bankers, economists and industry behemoths in order to urge them to jump-start the domestic investment and thereby calm down the declining temper of the market.

The Prime Minister had to intervene to stall the spiralling damage is proof enough of the urgency to protect and rekindle the economic fire.

Declining currency prices pose a challenge to Indian exports as international goods and services become cheaper and Indian exports become dearer. However, the damage has been negated somewhat due to the fall down in rupee vis-a-vis the US dollar. The decline in oil prices, on the other hand, should bring much cheer to policy-makers as India imports as much as 75 per cent of its total oil requirements.

This means the current account deficit (imports–exports or net imports) can be bridged further from its already negative figure of 0.3 per cent. The additional revenues also provide a leeway to the government to plug the structural deficits in the infrastructure sector

Meanwhile, the low inflation rate of 3.8 per cent has raised clamours for an interest rate cut from RBI chief Raghuram Rajan but the Governor has stuck to his dovish stance by arguing that the prediction of inflation target is looked upon by RBI at an approximate time span of one year before it takes a call on slashing interest rates.

Moreover, with the anticipated hike in US Fed Reserve interest rates, Rajan finds himself in a quandary as foreign institutional (FII) flows begin to taper-off from the emerging economies in the wake of improving unemployment data and pick-up in growth in the United States.

If the Governor succumbs to the clarion calls for reduction in interest rates, there is the risk of a further pull down in the foreign inflows which have already touched the $ 3.25 billion mark in the Indian equity and debt market. In addition to that the dismal monsoon season and the rising food prices and the Governor have every reason not to hold the interest rates at the current level.

Furthermore, the banking industry is in a mess as non-performing assets (NPA's) or bad loans begin to take a toll on the banks' finances. The increased debt burden implies a reduction in the already flagging credit growth in the country.

In this regard, the RBI has taken a step in the right direction by making the requisite regulatory changes (increased pre and post sanction due diligence) in the wake of an Ernst & Young report highlighting the misuse of borrowed funds which added to the woes stifling the banking industry.

On the part of the government, the failure to pass the much-anticipated Goods & Service tax (GST) bill along with the stalling of the land acquisition bill has raised much concern. The lack of a coherent tax structure and clear-cut investment rules will further drive the foreign inflows away from India.

However, steps such as financial inclusion (Jan Dhan Yojna), digitisation and skill development will add to the labour productivity and therefore contribute positively to the economic growth. RBI has extended a helping hand by allowing payment banks and small development banks to set up shop in the country. As many as 11 entities have already been granted license.

The pertinent reason why the RBI is persisting with the watchdog mode is because it is guided by inflation as measured by the Consumer Price Index (CPI). With the gloomy monsoon season affecting the kharif output and the inherent high weightage given to food in the index, the current 3.8 per cent figure is bound to go up.

However, with the precocious bent towards CPI, one wonders whether a more cumulative benchmark such as the Wholesale Price Index (WPI) and the GDP deflator can be kept out of the scope for long. With a discriminatory inflation index, the RBI can easily lose sight of the overall deflationary trend afflicting India.

Hence, NewsGram urges the honourable Governor to take stock of the situation and include an all encompassing measuring of inflationary rate which is so critical in guiding the monetary policy of the Central bank. A cogent monetary policy is in-turn the key to attracting the ebbing foreign flows in the country, and therefore, at the heart of the current nosedive in the markets.

With the Organisation for Economic Co-operation and Development (OECD), a Paris-based think tank, predicting "firming growth" for India amidst the unpredictable global trends, the RBI can do much by giving the initial boost through revamping of the inflation index.

Besides, the top leadership of any central banking institution is hired for making the right judgement call and providing the requisite thrust during seemingly difficult and confusing economic environment, and not merely being a passive observer to the swinging tides.

Here's hoping that Rajan makes the choice, soon.