The economic contraction

There is a way out. Focus on the informal sector and rural incomes

The Index of Industrial Production (IIP) contracted on a year-on-year basis by 4.3% in September. This is the second consecutive month of a dip in industrial output. The last time IIP growth was negative for two consecutive months was in March and April 2012. The economy was then caught in a three-pronged crisis. Growth was slowing, inflation was increasing, and both fiscal and external deficits were rising. The economy is not fragile today but it is also not well. GDP growth in the quarter ending June 2019 was 5%. Industry growth was just 2.7%, and manufacturing, a paltry 0.6%. The economic performance in the September quarter could be worse.

How did this happen? In 2012, the economy was still coming to terms with a sudden external shock, especially in terms of export demand, due to the global financial crisis. Crude oil prices were above $100 per barrel. Although the global economy is not doing very well today, there has been no sudden adverse movement. Crude prices are at comfortable levels. In other words, external shocks do not explain the current slowdown.

There are two domestic factors at play. The first is a largescale push for formalisation in the economy through demonetisation and Goods and Services Tax. The idea was to widen the tax base. The slowdown, which has accompanied these policies, seems to suggest that rather than becoming a part of the formal sector and augmenting revenue, the informal sector has taken a big hit and is perhaps dragging down even the formal sector. Why did this happen? The costs, which come along with formalisation, might have jeopardised the viability of many informal businesses. The second is the squeeze on farm incomes through low inflation. This has hurt the purchasing power of farmers. More than half the fiscal year is over. The government ought to address these two factors, rather than trying to pump-prime the economy through policies aimed at boosting the formal sector.