Unless circumstances push the Indian government into red, it has never treaded the path of structural reforms, be it 1991 balance of payments crisis or of late the impending multi pronged crisis looming large in the form of depletion of reserves, mounting fiscal deficit, alarming trade deficit. Foreign exchange reserves fell by $ 12 billion by depreciating rupee in a span of three weeks. Montek singh Ahulwalia, deputy chairman planning commission told that the fiscal deficit could swell to 5.5 percent of GDP, against the government’s target of 4.6 percent of the GDP for the year 2011-12. Finance ministry was of the opinion that it is a challenge to meet the fiscal deficit target. While the finance ministry is striving hard to contain the fiscal deficit another problem brewing in the back ground is the widening current account deficit, which might reach to a figure of 3% of GDP from 2.6% of GDP in 2010-11.
Though Indian government and the central bank have taken measures, by raising the Foreign Direct Investment limit in retailing industry, raising the limit of FII investment in G-Secs, bonds, to bail out the country in the short term if not in long term, much needed structural reforms are the need of the hour. The government has raised the FDI limit to 100% in single brand retail, to 51% in multi brand retail, though with lot of limitations in the form of restricted entry into 53 cities, and 50% of the investment should go into back end infrastructure building in the form of cold chain building and warehouse building and 30% of the sourcing should be done from the local players. While it is a good move, but retail being a state subject and opposition parties playing emotional politics, the impact of this move is a debatable subject, as to how far it will help energize the retail industry in India, and could yield the desired results. Another move aimed at meeting the dollar demand and to contain rupee fall is, Finance ministry increased the investment limit for foreign institutional investors in government securities and bonds by $ 5 billion each. But, how far these short moves will help sustain the long term growth story of India, a country which is looking to grow at double digit are questions which time can only answer.
Rupee fall might help exporters to some extent, especially the major export oriented industries, IT industry and textile industry, but the gains are only for those who receive alms in dollar denomination, and even if the receipts are in dollars many of them must have hedged their positions in the forward market and the gains depends on the position they have taken. At the same time the imports must have cost the importing companies dearer especially oil companies, many of whom are state owned. Capital goods are another component which cost more because of the depreciating rupee. According to the ministry of commerce and industry the trade deficit for April - September, 2011-12 was estimated at US $ 73461.34 million which was higher than the deficit of US $ 71119.23 million during April -September, 2010-11. And rupee expected to fall further to a low of Rs 58 vis-à-vis dollar, as expected by some of the industry analysts, may worsen the current account deficit even further.
Indian government has to take measures to treat the root cause rather than symptoms. While FDI may fetch long term funds into the country, FII investment are for short term, given the mood of the global investors, who are looking for safer havens, due to the instability of the Euro zone in the form of sovereign debt crisis which may spill over to emerging market economies, and India is very much susceptible to the shock because of the global inter dependency and United states economy has just seen the trend reversal from contracting economy to expansion economy may looks like a safer haven still, for global investors.
For Indian government to instill confidence in the investors and send signals to the industry to boost the sentiment it has to exercise utmost restraint in the fiscal management, in the form of reducing fertilizer, petroleum subsidies, which are causing the exchequer to drain a lot. According to budgetary estimates for the fiscal year, Projected subsidy for food in 2011-12 is Rs 60,573 crore, for fertilizer and petroleum it is Rs 49,998 crore and Rs 23,640 crore, respectively. India’s subsidy bill up by over 100% in the last 4 years and by the end of fiscal year 2011-12 it will reach a figure of 1.43 lakh crore on account of petroleum and food items, compared to a figure of Rs. 70,926 crore during 2007-08.
Successive governments have doled out populist welfare programs without giving much thought to the source and means of revenues, which manifested into the current problem of glaring fiscal deficit over time. Had the government spent subsidies at least in a different form, where in it could drive the economy on to the growth path, while helping the farming community to move to modern farming methods and help sow commercial crops and high yielding crops, by investing in awareness building campaigns, could have helped the government two fold. First in the form of increased agricultural produce exports, which could have added few more greenbacks to the foreign exchange reserves kitty and thereby reduced widening current account deficit and secondly in the form of reduced inflation, due to increased production, which government and the central bank is unable to tackle because of the supply side constraints and depreciating rupee, even though RBI has increased repo rate by 13 times since march 2010.
The government should look at long term implications of policy measures which it took in the recent past, which falls in the 11th five year plan ending in 2012. Starting April 2012, 12th five year plan comes into effect, which should lay emphasis on reforms which lasts longer and plug in the loop holes in the policy making both from internal and external perspective. It should act fast on agro-infrastructure building investment decisions and forge partnerships with private parties, which will ease the constraints in the supply side, and could have effect in softening inflation, post which government can fully concentrate on growth aiding measures by injecting or channeling investments into power sector, high ways which has the potential to help attract investments into core sectors like cement, steel and mining. Contract farming is another area where government has to encourage private parties and farmers to come together and work for reliable cash flows for both, this is not an easy job where farmers wary of big ticket private parties, and government has to instill confidence by enacting laws and acts, especially the age old Agricultural Produce Market Committee act.
One of the potential ways, the government could reduce loop holes in the subsidy system is to roll out the AADHAAR card as early as possible on pan-Indian basis and see that only eligible beneficiaries reap the benefits of the welfare schemes rather than the middlemen. Even the fertilizer subsidies should be transferred directly into the accounts of farmers on a pilot basis to check the actual amount of subsidy bills which government is incurring and the differential, post rolling out the direct transfer mechanism. Another important aspect the government has to look at is the budgetary allocation for MNREGS, the program was intended to provide 100 days of wage employment in a financial year to every household in rural areas. There is no clear cut definition as to what a household consists of, is it the two generations or three generations of people who consist a household or every generation is considered a household is an ambiguity which needs to be clarified. There are no checks in the system for now as to how many days a single household is availing this facility, ideally it should be 100 days, but the very definition of household is the key to check the loophole, which could save the government a lot. Even though the workers are payed for only when they work, but the actual budgetary estimates go haywire considering the provision of 100 days for a household or tweaking this provision and providing 100 days employment to each individual in a family at times.
A lot of reforms need to be implemented urgently to overcome many structural problems, which could push the country into red, and this time the global economy is in doldrums and investors are skeptical, situation this time around is very different from 1991 to expect lot of fund inflows into the country, which had saved us in the past; instead of depending on the external environment, let’s put in place our house in order first, hope rest will fall in line over time.
By Thirupathi Birudu
Finance club of IIM Raipur.
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