The elec­tions, clearly, will de­ter­mine how fu­ture in­vest­ments will pan out, the global econ­omy look­ing up is a big pos­i­tive and a good mon­soon will keep in­fla­tion in check

The Financial Express - - FRONT PAGE - The au­thor is chief econ­o­mist, CRISIL

With the In­dian econ­omy stuck in a slow lane for over two years now, it is dif­fi­cult to be op­ti­mistic about 2014. But we must also re­alise that there ex­ists a cog­ni­tive bias in our fore­cast­ing abil­ity, which psy­chol­o­gists re­fer to as the ‘re­cency ef­fect’. We tend to fore­cast pes­simism from a pre­vail­ing pes­simistic sce­nario and the same holds for op­ti­mism as well. That makes pin­ning down a turn­ing point ex­tremely chal­leng­ing.

I be­lieve that the growth out­look for 2014 is set to im­prove, al­beit mod­estly, from the cur­rent lows. A con­flu­ence of favourable de­vel­op­ments such as con­tin­ued progress on pol­icy ac­tions (like clear­ing projects, lift­ing ban on min­ing), good luck on mon­soons and a widely an­tic­i­pated im­prove­ment in global growth out­look can lift In­dia’s GDP growth to 6%.

There are four things to watch out for in 2014:

Elec­tion and re­forms: The out­come of the gen­eral elec­tions will be crit­i­cal to shap­ing In­dia’s eco­nomic des­tiny. Po­lit­i­cal un­cer­tainty is, there­fore, a huge weight on the econ­omy at this junc­ture. A de­ci­sive man­date can speed up the res­o­lu­tion of pol­icy bot­tle­necks (a big drag on In­dia’s growth), has­ten pend­ing re­forms, im­prove pri­vate sec­tor sen­ti­ment by send­ing a strong sig­nal and lay the foun­da­tion for In­dia’s en­try into a phase of healthier growth.

Even with a frag­ile po­lit­i­cal out­come, I be­lieve the re­forms process that started about a year ago will not be re­versed and will be­gin to bear fruit in 2014. Th­ese de­vel­op­ments, in con­junc­tion with the low base of last two years, can give a one­time boost to growth 2014-15.

The cost of a frag­ile man­date will be high over the medium run as we will not be able build on the mild up­turn in 2014. The re­sult­ing ‘ slow pol­icy ac­tion’ and un­cer­tainty can trap In­dia in sub-par growth en­vi­ron­ment over the medium run. Elec­tions, there­fore, would be the most closely watched event of 2014.

Global growth out­look and QE: In an in­ter­con­nected world, global de­vel­op­ments mat­ter more than ever. In ad­di­tion to global re­cov­ery, other de­vel­op­ments such as the quan­tum and speed of QE ta­per­ing have ma­te­rial in­flu­ence on global liq­uid­ity and risk ap­petite and thereby flow of funds into In­dia. Risks re­main, but there is now some com­fort on both fronts—global growth as well as im­pact of QE ta­per­ing.

De­spite mixed de­vel­op­ments, the IMF projects global growth to rise to 3.6% in 2014 from 2.9% in 2013. China has slowed af­ter decades of dou­bledigit ex­pan­sion, Euro­pean debt cri­sis is not over and the US still has high un­em­ploy­ment, but con­di­tions are steadily im­prov­ing. Europe is ex­pected to move from sub-zero to sub-par, yet a pos­i­tive growth tra­jec­tory in 2014. China is likely to main­tain growth around its new nor­mal of 7-7.5%. Even this is good enough to ben­e­fit many Asian economies which are tightly in­te­grated into China’s sup­ply chain. This will ben­e­fit In­dia too as our trade with Asia has ex­panded over the last few years.

The strong­est growth im­pulse in the ad­vanced world has been seen in the US and is re­flected in the Fed’s de­ci­sion to be­gin QE ta­per­ing. US thirdquar­ter GDP was re­vised up to 4.1% from an ear­lier es­ti­mate of 3.6% and hous­ing starts jumped to a 5-year high of 22.7% in Novem­ber. The threat of another gov­ern­ment shut­down is re­ced­ing with the Ryan-Mur­ray deal.

Global re­cov­ery, par­tic­u­larly in the US, au­gurs well for In­dia’s ex­ports of goods as well as ser­vices like IT and ITeS in 2014.

The be­gin­nings of QE ta­per­ing have been faced well by In­dia and the ru­pee has re­mained sta­ble. We re­duced our ex­ter­nal vul­ner­a­bil­ity by cut­ting CAD, while im­prov­ing cap­i­tal in­flows through in­no­va­tive schemes for at­tract­ing NRI de­posits and build­ing a cush­ion against ex­ter­nal shocks by en­ter­ing into cur­rency swap agree­ments (no­table be­ing the $50bn agree­ment with Ja­pan). This has strength­ened In­dia’s de­fences against pos­si­ble shocks to global risk ap­petite and liq­uid­ity in 2014.

Mon­soon: Mon­soons are al­ways a risk. Rain­fall data of last decade tells us that only 3 out of 10 mon­soons have failed. In the ab­sence of any spe­cific in­for­ma­tion on 2014 mon­soons, I would go by an as­sump­tion of nor­mal mon­soons rather than a lower prob­a­bil­ity event of a mon­soon fail­ure.

To put things in con­text, given the fall­ing share of agri­cul­ture in GDP, it is no longer the prime mover of over­all GDP growth. That is why even an above-trend growth in agri­cul­ture can­not crank up GDP be­yond 5% in 2013-14. But it mat­ters a lot for in­fla­tion con­trol, par­tic­u­larly of food—a ma­jor headache for pol­i­cy­mak­ers.

In­fla­tion and mone­tary pol­icy: Will mone­tary pol­icy sup­port growth in 2014? This is one of the most dif­fi­cult ques­tions to an­swer, and more so with­out know­ing the new mone­tary pol­icy frame­work cur­rently be­ing de­vel­oped by RBI.

In­fla­tion will nudge down defini­tively if we are blessed with another nor­mal mon­soon in 2014. Food in­fla­tion would then tend to sta­bilise at lower lev­els. The pos­si­bil­ity of lower food in­fla­tion im­proves fur­ther if the re­cently an­nounced steps such as the abo­li­tion of APMC Act in Congress-ruled states fruc­tify and other states fol­low.

The de­mand pres­sures on in­fla­tion will be muted as we are talk­ing of growth re­cov­ery to 6% in 2014-15 and not 8-9% wit­nessed af­ter the Lehman cri­sis. Af­ter many years of strong spend­ing, the In­dian con­sumers have geared down and the mild bounce in the econ­omy will lift house­hold con­sump­tion only a tad. This will keep man­u­fac­tur­ing in­fla­tion low. With lower in­fla­tion, in­ter­est rates will be capped and can even fall.

How does all this stack up for 2014?

While slip­ping be­low 6% is easy (es­pe­cially if we slip on some of the re­forms that have be­gun), grow­ing faster than that in 2014 is dif­fi­cult even with an over­whelm­ing po­lit­i­cal man­date. The books of banks are in tat­ters with their huge stack of bad loans, which im­pairs their abil­ity to fi­nance growth. Even with an im­prove­ment in pri­vate in­vest­ment cli­mate, the ben­e­fits will take time to flow at the ground level be­cause of the long ges­ta­tion pe­ri­ods in­volved. Re­mem­ber also that the project pipe­line has nar­rowed sharply.

Net-net, a 6% growth in 201415 would only be a mild bounce from the trough and not nec­es­sar­ily the be­gin­ning of a de­ci­sive re­cov­ery.

Illustration: SHYAM

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