India Business Journal - - CONTENTS - DR T P MADHUSOODANAN

Rate Cut Panacea : A pol­icy rate cut by the RBI can spur con­sumer de­mand and in­dus­trial out­put, boost em­ploy­ment and scale up eco­nomic growth.

A pol­icy rate cut by the RBI can spur con­sumer de­mand and in­dus­trial out­put, boost em­ploy­ment and scale up eco­nomic growth.

The In­dian me­dia has been abuzz with the RBI's Mon­e­tary Pol­icy Com­mit­tee (MPC) dis­cus­sion on a pro­posed re­duc­tion in in­ter­est rates for the In­dian econ­omy. With in­fla­tion com­ing down and sig­nals from other eco­nomic vari­ables open to in­ter­pre­ta­tion, there are a plenty of ar­gu­ments as well as counter- ar­gu­ments as to whether this is the right time for an in­ter­est rate cut.

In the back­drop of this dis­cus­sion, let us ex­am­ine the na­tion's in­fla­tion as well as other eco­nomic data and try to make some sense of them. It is also im­por­tant to note that mar­kets, both eq­uity and forex, have been show­ing en­thu­si­asm to­wards the In­dian econ­omy.

For all its in­tents and pur­poses how­ever, a pol­icy rate cut may be an ap­pro­pri­ate ac­tion for com­pletely dif­fer­ent rea­sons. The In­dian econ­omy, ar­guably, is not nec­es­sar­ily in good shape. Pol­icy ini­tia­tives to in­crease con­sumer de­mand are im­por­tant in or­der to sus­tain the econ­omy's growth and pro­vide em­ploy­ment.

Shrink­ing out­put

It is ob­vi­ous that in­fla­tion is slow­ing down right now, pri­mar­ily due to a re­duc­tion in food prices. A crash in the prices of pulses and some veg­eta­bles has con­trib­uted sig­nif­i­cantly to this drop. But is that a sus­tain­able trend?

Although the core in­fla­tion (in­fla­tion sans food and fuel) is hold­ing steady, and it's still above the na­tion's in­fla­tion tar­get, the low level of food in­fla­tion could be in­dica­tive of higher in­fla­tion in the fu­ture. One needs to ex­am­ine whether the coun­try's in­fla­tion is fall­ing due to in­creased sup­ply of food and food prod­ucts alone, or whether there is a con­straint from the de­mand side as well.

A re­duc­tion in in­ter­est rates has sig­nif­i­cant im­pli­ca­tions for in­dus­trial growth and em­ploy­ment gen­er­a­tion in the In­dian econ­omy. If the RBI's MPC meet­ing min­utes are any­thing to go by, there's a dis­cernible gap in out­put, with cur­rent ca­pac­ity util­i­sa­tion pegged at around 70 per cent. It is quite ob­vi­ous that ca­pac­ity util­i­sa­tion isn't ex­hibit­ing healthy trends of late. The grow­ing out­put gap doesn't au­gur well for em­ploy- ment or eco­nomic growth.

It's ev­i­dent that the ef­fec­tive pend­ing or­ders, in­clud­ing new or­ders, are de­clin­ing and have been in the neg­a­tive for the past four quar­ters. This is a clear in­di­ca­tor that growth in the econ­omy is lag­ging. An ex­am­i­na­tion of the av­er­age in­ven­tory of fin­ished goods and raw ma­te­ri­als throws up an alarm­ing trend as well.

The quan­tity of fin­ished goods as a per­cent­age of sales is go­ing up, while the raw ma­te­ri­als to sales ra­tio is com­ing down. These in­di­ca­tors all point to the fact that man­u­fac­tur­ers are wor­ried about the fu­ture. If they were ex­pect­ing growth in sales, they would likely have stocked more in­ven­to­ries of raw ma­te­ri­als de­spite the mount­ing stocks of fin­ished goods. Ob­vi­ously, pro­duc­ers are opt­ing for a wait-and-watch strat­egy on the pro­duc­tion front.

Data and trends on the coun­try's over­all in­dus­trial pro­duc­tion growth also seem omi­nous as de­mand in the econ­omy con­tin­ues to be sub­dued. There needs to be enough cor­rec­tive ac­tions taken to pro­pel con­sumer de­mand in or­der for the econ­omy to grow and gen­er­ate em­ploy­ment.

It's ev­i­dent that although core in­fla­tion is cur­rently hold­ing steady, the grow­ing de­mand gap is a ma­jor is­sue. If de­mand doesn't in­crease, there could be mount­ing pric­ing pres­sures that will have a se­ri­ous im­pact on the man­u­fac­tur­ing sec­tor as well as the health of In­dia's over­all econ­omy.

Un­re­li­able jobs data

In­dia's un­em­ploy­ment lev­els are a cu­ri­ous dy­namic. For over two decades, In­dia's of­fi­cial un­em­ploy­ment rate has been the low­est among the world's ma­jor economies. You may won­der how one of the world's most pop­u­lous coun­tries, pos­si­bly even the world's largest pop­u­la­tion be­low the poverty line, could boast of such a

feat. You wouldn't be the only crit. Ac­cord­ing to the World Bank, a third of In­dia's pop­u­la­tion lives with less than $1.90 a day.

Mean­while, the In­dian gov­ern­ment it­self of­ten con­tra­dicts the na­tion's un­em­ploy­ment data. Ac­cord­ing to the na­tion's 2011 Cen­sus data, un­em­ploy­ment was more than 15 per cent among ed­u­cated peo­ple. How then did the coun­try man­age to con­sis­tently main­tain an un­em­ploy­ment rate of less than 3.5 per cent among the world's ma­jor economies? The dis­crep­ancy here arises from sev­eral em­ploy­ment guar­an­tee schemes that are run by the In­dian gov­ern­ment. The num­ber of days worked or the to­tal amount of money earned not­with­stand­ing, if a cit­i­zen at any point had been em­ployed by the scheme, he or she is stricken from the un­em­ployed list. This would eas­ily ex­plain the lower ru­ral un­em­ploy­ment rate de­spite the bet­ter part of the pop­u­la­tion fall­ing be­low the na­tional poverty line. It also ex­plains the higher un­em­ploy­ment rate among ed­u­cated and ur­ban ci­ti­zens. Fur­ther, the ac­tual num­ber of days worked and to­tal earn­ings from these schemes could be far lower than the of­fi­cial data, given the pil­fer­age in all such gov­ern­ment schemes.

Fig­ures about ac­tual un­em­ploy­ment rates or the level of un­der-em­ploy­ment aren't eas­ily avail­able. Most de­vel­oped coun­tries pro­vide un­em­ploy­ment al­lowance and hence gen­er­ate valid data based on the num­ber of peo­ple who avail them­selves of it. El­i­gi­ble ci­ti­zens need to pe­ri­od­i­cally prove that they tried to se­cure em­ploy­ment but didn't suc­ceed in or­der to qual­ify for con­tin­ued as­sis­tance. In­dia nei­ther main­tains a data­base of el­i­gi­ble un­em­ployed peo­ple nor pro­vides any al­lowances. That, ob­vi­ously, makes it eas­ier for dif­fer­ent agen­cies to "de­rive" num­bers that suit them best. Given the sub­jec­tive na­ture of such data, can they re­ally be use­ful while plan­ning out se­ri­ous pol­icy or in­vest­ment plans?

Growth para­dox

One of the fastest grow­ing large economies in the world over the past few quar­ters, In­dia has an in­ter­est­ing growth story. The In­dian econ­omy has def­i­nitely grown much faster after 1991. Is In­dia's re­cent growth re­ally that high how­ever, and if so, is it sus­tain­able? We need to ad­just the data on at least two counts in or­der to get a com­pa­ra­ble story.

First, we need to fac­tor in a sig­nif­i­cant re­duc­tion in oil prices over the past year; it's had a siz­able im­pact on the In­dian econ­omy, a ma­jor im­porter of oil. The Econ­o­mist ex­pects the low prices to con­trib­ute about 2 per cent to In­dia's GDP growth. If that is true, then the cur­rent growth isn't as siz­able as one could make it out to be.

Next, we need to ac­count for the fact that In­dia has been shift­ing a greater por­tion of its un­or­gan­ised econ­omy to an or­gan­ised space. The cur­rent pe­riod's GDP num­bers would then, of course, be skewed. The size of this shift adds di­rectly to the mea­sur­able eco­nomic growth.

There is, how­ever, no di­rect and easy means to re­li­ably quan­tify the size of that ad­di­tion. Take, for ex­am­ple, In­dia's re­cent tryst with de­mon­eti­sa­tion. The gov­ern­ment claims that the move would be a sig­nif­i­cant step to­wards draw­ing as­sets from In­dia's in­for­mal econ­omy to con­ven­tional chan­nels. If that's true, we should see sig­nif­i­cant growth in sev­eral sec­tors over the next year due to the in­fu­sion of these erst­while un­ac­counted for as­sets. Fur­ther, the es­ti­mated growth could be higher after ad­just­ing for the mi­nor neg­a­tive im­pact of de­mon­eti­sa­tion dur­ing the pre­vi­ous fi­nan­cial year. The best forecast of GDP growth for the next year falls short of these ex­pec­ta­tions how­ever, pegged at just about 7.5 per cent.

It's also worth not­ing that this es­ti­mate is on top of the pos­i­tive ef­fect that changes in how In­dia's GDP (es­ti­ma­tion of GVA vs the ear­lier method of GDP cal­cu­la­tion) is now mea­sured. The re­vised method had boosted In­dia's 2013-14 GDP growth forecast to 6.9 per cent, up from the 4.7 per cent forecast es­ti­mated ear­lier us­ing the old method­ol­ogy. Though the cur­rent method­ol­ogy is def­i­nitely an im­prove­ment and com­pa­ra­ble to global stan­dards, the num­bers over the same pe­riod can­not be com­pared with­out ad­just­ing the pre­vi­ous (or cur­rent) num­bers in or­der to get a bal­anced com­par­i­son.

Re­al­ity of growth

There has been a lot of dis­cus­sion on the grow­ing num­ber of un­em­ployed in­di­vid­u­als in the In­dian econ­omy. Ob­vi­ously, peo­ple do not be­lieve the of­fi­cial fig­ures for In­dia's un­em­ploy­ment rate. They do, how­ever, be­lieve the growth num­bers are real. Both these num­bers ap­pear to be un­re­li­able, and hence, we need to ac­cept the fact that the In­dian econ­omy is not grow­ing steadily enough to gen­er­ate em­ploy­ment lev­els that can sat­isfy the mil­lion new en­trants that seem to be en­ter­ing In­dia's job mar­ket ev­ery month.

It is also im­por­tant to ex­am­ine the other ma­jor sig­nals that the num­bers are giv­ing out. Even if the num­ber of lay­offs in In­dia's IT sec­tor is smaller than what the me­dia has made them out to be, the fact re­mains that ex­ist­ing play­ers in In­dia's sea­soned tech­nol­ogy sec­tor are re­duc­ing their work­force. New jobs cre­ated by the na­tion's start-up ecosys­tem as well as other new busi­nesses are not able to off­set these losses. This may have a long- term im­pact on the coun­try's em­ploy­ment mar­ket and over­all eco­nomic growth.

Other seg­ments of the econ­omy aren't far­ing too well ei­ther. After quite a few years of scanty rains, In­dia was ex­pect­ing a nor­mal mon­soon this year. The mon­soon has been un­even how­ever, with dif­fer­ent parts of the coun­try ex­pe­ri­enc­ing ei­ther floods or droughts. This un­even spread is likely to sig­nif­i­cantly im­pact In­dia's siz­able agri­cul­tural and ru­ral economies.

Though the GST roll­out would have a very pos­i­tive im­pact on the econ­omy in the long run, the short­term im­pact may not be pos­i­tive. The rushed in man­ner (though there was enough time) and the over-com­pli­cated struc­ture could make the im­ple­men­ta­tion messy.

The In­dian bank­ing sys­tem's NPA res­o­lu­tion move­ment could have an ad­di­tional im­pact on the econ­omy as well, pos­si­bly boost­ing em­ploy­ment growth. If the RBI and other banks take this re­ally se­ri­ously, it would ef­fec­tively bring as­set sales at sig­nif­i­cant hair­cuts, bank­ruptcy pro­ceed­ings against some com­pa­nies as well as higher pro­vi­sion and greater de­mand for cap­i­tal from banks and other in­sti­tu­tions. This would col­lec­tively re­duce some amount of em­ploy­ment and eco­nomic value in the near fu­ture while mak­ing the bank­ing sys­tem health­ier in the long run and boost­ing long-term eco­nomic growth.

An­other sig­nif­i­cant fac­tor loom­ing over In­dia's eco­nomic fu­ture is the im­pact of the coun­try's farm­ers' loan waivers. With­out go­ing into the mer­its or de­mer­its of the waivers, it is easy to con­clude that its im­pact would be net neg­a­tive for the econ­omy as re­source- starved State gov­ern­ments would have to ab­sorb this cost, and this could stall in­fra­struc­ture de­vel­op­men­tal projects.

Time to act

The de­mand side of the econ­omy seems to be con­strained, with many wor­ries com­ing to the fore. In ad­di­tion, many other eco­nomic and other sig­nals points to neg­a­tive im­pli­ca­tions for eco­nomic growth and em­ploy­ment gen­er­a­tion.

In­dia needs to boost con­sumer de­mand in or­der to tide over these prob­lems, en­abling the econ­omy to grow and gen­er­ate em­ploy­ment. A pol­icy rate cut would, there­fore, be a rea­son­able ac­tion to take.

Ad­di­tion­ally, one needs to ex­am­ine the data and the de­tails be­fore they can be used for any mean­ing­ful pur­poses. Much of the eco­nomic data avail­able in In­dia ap­pears to be un­re­li­able, of­ten con­tra­dic­tory, and hence, they need to be called on with cau­tion, lest the con­clu­sions drawn be com­pletely wrong.

The author is head of quan­ti­ta­tive re­search prac­tice at Aranca, a re­search, an­a­lyt­ics and ad­vi­sory firm based in Mumbai.

Plung­ing con­sumer de­mand could se­ri­ously im­pact man­u­fac­tur­ing sec­tor and dent over­all econ­omy.

A shift in a greater por­tion of In­dia's un­or­gan­ised econ­omy to an or­gan­ised space could skew GDP num­bers.

Ac­cord­ing to 2011 Cen­sus data, un­em­ploy­ment was more than 15% among ed­u­cated peo­ple.

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