NAME: Abhishek Datta INSTITUTE: Indian Institute of Social Welfare & Business Management Contact No.

09874758376 Email ID.: abhishek.datta87@gmail.com

CURRENT ECONOMIC SCENARIO-CAN INDIA WEATHER STORM

The Global Economy

THE

During the second half of 2011, sovereign downgrades were accompanied by bouts of global financial market volatility while geopolitical unrests added to global woes with consumer and business confidence falling across the globe. Recovery from 2007-08 financial crisis was disrupted by stress in Euro area and due to slowdown in US growth. In US, with all efforts to stimulate private demand failing, it became increasing clear that the global economy was entering another phase of economic crisis. Inadequate policy tools for advanced economies & strained public finances have made thing worse. There is a clear lack of consensus among decision makers to reach a solution- standoffs on critical issues like raising the ceiling on US government debt or the Greek bailout have sapped confidence in policy making. The same is observed in India. The government is doddering under the weight of corruption charges and the governance paralysis is evident. Against this backdrop, projections of global and Indian growth have been revised downward. Uneven growth trajectories between most developed and developing countries have led to a significant change in asset allocations across the globe; investors are more conscious of the risks associated with liquidity and sovereign credit quality, and globally private asset allocation is being driven most strongly by positive growth prospects and falling risks in the recipient countries. Though this reduces the risk of interest rate driven capital outflows, it raises the risks of overheating of high growth developing economies as well as exposes them to the dangers of flow reversals if fundamentals such as growth prospects or country or global risk change. According to a joint OECDUNCTAD report, there is a growing perception that trade protectionism is gaining ground in some parts of the world as apolitical reaction to current economic difficulties. The institutions warn that unilateral actions to shield domestic industries and jobs from international competition, although appealing from a narrow short-term perspective, will not solve global problems, and on the contrary may worsen matters by triggering spiral reactions in which every country loses. Withdrawal of fiscal and monetary stimulus in many high growth economies like China and India is also slowing them down leading to a further contraction in global demand .

12.5 8 4 0 -4 -8 -12.5

Figure1 Growth, Fiscal Balance and Key Monetary Policy Rates around the Globe

The deteriorated state of public finances and renewed market concerns over sovereign debt call for fiscal austerity. However, unless such austerity programmes are thoughtfully executed, the resultant slowdown in growth may jeopardize plans for fiscal consolidation. As of now, worries about another immediate global downturn have been allayed, even if temporarily, by the headway made in resolving the European debt crisis through a credible rescue plan for Greece and a strong US growth performance driven by consumer, business spending and improved employment data. With the conventional measures failing to sustain the recovery, policies need to strike the right balance between supporting the recovery in the near term and restoring public debt sustainability over the medium term. Such policies related to deeper structural changes are understandably more difficult to converge upon and implement, and the results usually slower to materialize.

The Indian Financial Market & Economy

Amidst global political, economic and financial market turbulence and heightened uncertainty, the Indian economy is clearly seeing slowing growth. GDP growth decelerated for the third successive quarter to 7.7 per cent in Q 1 (April-June) of 201112 from 8.8 per cent a year ago, and 7.8 per cent in Q 4 of 201011. Industrial growth (IIP) decelerated to 5.6 per cent during April-August2011 from 8.7 per cent in the corresponding period of the previous year. This was mainly on account of slowdown in capital goods, intermediate goods and consumer durables. The RBI has indicated that this moderation is, in part, due to the anti-inflationary stance of monetary policy, a necessary pre-condition to bringing inflation down, but apart from the external environment, internal policy and regulatory matters are responsible for the moderation in growth, particularly for the significant slowdown in investment activity. Inflation has remained intractably high during the financial year so far, with WPI based inflation averaging 9.6 per cent; inflation has also been broad-based, driven by all the three major groups for which it is measured, namely, primary articles, fuel and power, and manufactured products. The industrial sector has been witnessing a slowdown under the combined impact of near double-digit inflation and rising cost of borrowing. Investment demand has slackened, reflecting slower clearance and execution of projects, concerns about inflation and rising interest rates. Because of the tapering of demand in interest rate sensitive sectors, private final consumption expenditure (PFCE), the largest component of aggregate demand, also moderated during the first quarter of 2011 12.Keeping such factors in mind, the RBI has revised the baseline projection of GDP growth for 201112 downwards to 7.6 per cent from an earlier projection of about 8 per cent. The RBIs latest policy has been formulated on the basis of the expectation that inflation would be declining from December onwards and would come down to 7 per cent by March 2012.

Challenges & Stimulants

GROWTH

After the bounce back from the financial crisis, stubbornly high inflation has landed India in a big problem that has seen growth estimates slip from over 9% at the beginning of the year to nearly 7% now. High inflation adding to the domestic concerns has forced monetary tightening which has slowed down investment & consumption. The government been unable to fight back. Inflation management has left very little policy room. Corruption taint has weekend the government. With fiscal deficit expected to exceed 4.6% of GDP, there is no room for fiscal stimulus. The government is unable to push reforms because of opposition from within and outside. Prescription Set Fiscal Goals- Provide a clear road map for fiscal co nsolidation so the Reserve Bank of India could begin to ease monetary policy to stimulate demand . Clear Projects Fast- Send a clear signal of governments resolve to fast track projects in the coal and power sector that have been stuck for administrative reasons. Push Key Reforms- Give some indication of how govt. proposes to handle the bills pending in Parliament and tackle issues such as diesel subsidy and FDI in retail . Focus on Supplies- A blue print to ease supply constraints so that inflation does not accelerate once growth picks up pace. Concentrate on Rural Development - A strong emphasis on rural infrastructure to provide impetus to rural demand that seems to be slowing down as the effect of NAREGA and debt waiver wears off.

Fiscal Consolidation
Fiscal Deficit is excess of expenditure over government revenue that has to be met through borrowings. A high fiscal deficit reduces the availability of funds for private sector, thereby economic growth is slowed down. If government expenditure is focused on consumption spending and does not result in asset creation- it can spurt inflation. Excessive borrowing may lead to higher interest and investors may not be ready to take up the over-supply of government papers unless high rates are offered.

Prescription Setting Clear Goals- Government should lay down clear goals for fiscal consolidation Transparent Subsidy Mechanism- Bring more transparency in provision for subsidies in the upcoming Union Budget, clarity on pricing of petroleum products, and put urea under the nutrient based subsidy regime.

Tone Down Food Security Law- Avoid an overly ambitious food security law that could balloon the subsidies and offer some solution for mounting losses of state electricity boards. Set Framework for Shift to GST- Increase indirect taxes to at least the pre-financial crisis levels and sell out a framework for shift towards the Goods & Services Tax or GST. Plan Better Subsidy Transfer-Design framework for cash transfer of subsidies through the AADHAR number for better delivery and efficiency in subsidy management. Avoid Wasting Better Days- Provide a counter-cyclical fiscal consolidation framework that imposes greater discipline on the government of the day when things are going well.

Tax Reforms

Tax reform has a key role to play in maintaining the growth of the Indian economy. From a macro perspective, the tax system must continue to provide the revenues required to finance the investment in physical and social infrastructure that is essential to support a high rate of growth, while at the same time reduce the budget deficit. Also, tax reform must be used to reduce the growing inequalities in Indian society. A substantial portion of income generated in India escapes tax. The reform in direct tax regime has helped increase compliance, but the revamp of the revamp of indirect tax regime is stuck because of slow pace of progress on GST.

Prescription Move towards GST Raise Duty on Gold Rationalize Customs Duty Revise Excise and Service Tax rates Increase Duty on Crude

WE NEED LOW TAX RATES AND BIG BASE

Investments
Indias high savings rate has the potential to deliver a sustained near 9% GDP growth if it is adequately channelized into investments. But a combination of high interest rates, uncertain environment and lack of policy push has almost stalled corporate investments.

Prescription Curb Deficit Expand Role of PSUs Ease Land Acquisition Channel Subsidies Approve projects Fast

India is indeed facing challenges on various fronts, ranging from a slowing economic growth, expanding fiscal deficit to depressed investor sentiment, but there is no doubting the fundamental strength of the Indian economy. A well coordinated and purposeful action plan will solve the current gloom in the medium term. The upcoming Union Budget is the best opportunity for the government to turn things around.