Economic Times-Debate

India already running a highly expansionary fiscal

policy
Dec 9, 2008, 06.50am IST

(Amit Tandon, Managing Director,Fitch Rating)
John Maynard Keynes revolutionised the way the world thinks about economic
problems. Reeling from the great crash of 1929, and the Great Depression that
followed, governments embraced the central idea from The General Theory of
Employment, Interest and Money (1936): a combination of more government
spending and tweaking taxes will put more money in people's hands, which when
spent will provide the necessary stimulus to an economy to grow.
His theories remained popular especially among those who liked the idea of a
strong central government, till the mid-seventies, when they gave way to those
of Friedrich von Hayek and more notably Milton Friedman. His ideas have seen a
recent resurgence (though many will rightfully argue that they were never really out
of favour), with the US government actively intervening to stave off the financial
crisis, and coordinated action by the central banks across continents.
With mounting evidence to suggest that our economy has shifted gear and is now
expected to grow at around 6%, down from 9+% growths seen over the past four
years, the Union government over the weekend announced a Rs 30,000 crore
package combining additional spend with tax cuts. The additional expenditure,
largely directed towards infrastructures, aims at quickening the pace of investments,
while the tax cuts at reducing prices and both stimulating demand. These combined
with the pay commission recommendations based pay-outs earlier during the year,
and the monetary actions by the Reserve Bank of India, are aimed at providing the
needed impetus.
Additional money in people's pockets or lower prices should lead to additional
spending, but will this lead to the economy growing by a multiple of the stimulus is
yet not clear. However, the big push in infrastructure, based largely on easing flow of
money is misplaced. It is naive to assume that companies have stopped (or not
started) to build roads, ports, power plants, upgrade telecom infrastructure because
money is not available. They have not done so because investing in infrastructure
remains risky.
The biggest issue is that of an unclear policy regime. And where they have decided
to take a step forward, cloudiness on even the main terms of the contract has led
many of them to be frequently renegotiated. This lack of clarity has impacted the
ability of companies to decide where and how much money to invest. Then there is a
very high level of construction and completion risks associated with most projects,
partly because a multiplicity of central and state agencies involved in the approval
process.
All this leads to uncertainties about an infrastructure project's cash-flows, and hence
its ability to get financed. That money is consequently available for the short-term
and with annual resets, compounding some of the project risks. Many of the private
equity funds that have in the past been attracted towards the infrastructure sector in
India have decided not to take a step back. So merely facilitating the flow of money
towards the infrastructure sector change is unlikely to change the economy's
trajectory and certainly not the silver bullet.
A 6% growth rate, albeit with some downward pressure, still puts the economy's
growth at amongst the fastest in the world. So, for the markets to act as if the end is
near is inexplicable. Should the government have done nothing? The Indian state
has always favoured intervention, fiscal or other, election or no election. Faced with
evidence of a slowing down, the fiscal stimulus and the monetary easing announced
are clear evidence of the government's willing to act. This is desirable in itself.