The constructed myopia of the market
It was less than a year ago that the government put out some sure shot views that in sum said: “Oil prices are broadly capped”. The words came in the Economic Survey 2016-17, Vol 2 of Aug 2017, which reported with rather uncanny surety, “Shale technology will ensure that prices cannot remain above (the $50 ceiling)”. Soon enough, prices started rising. Rather wisely, the next Economic Survey (2017-18 of Feb 2018) remembered the words of John Maynard Keynes: “The inevitable never happens. It’s the unexpected always”.
Now, with noise all round of rising crude prices, and the concomitant and repeated rise in fuel prices at the pump, the debate has taken on another dimension and carries important political overtones.
Consider the current talk about the deteriorating macroeconomic situation in the country. The fear is this can only get worse in an international environment that is less than conducive and a government that will soon get into re-election mode. How soon the story has changed, from the cheers about Indian growth surpassing China numbers to a realisation that all is not well!
The picture obtained today is this: Core inflation, which is inflation numbers for items excluding food and fuel, stayed in the range of 5.8 – 6.2 per cent for April 2018. This stubbornness of core inflation, coupled with swelling fuel inflation due to higher oil prices, has the potential to put enormous pressure on headline retail inflation. The market that cheered when inflation was low, demanding its pound of flesh in reduced interest rates, is today becoming an advocate of lowering fuel prices by reducing taxes.
The noise caused by the fuel inflation is already taking on political overtones. A series of social media messages today mock the government on its ‘achhe din’ promise, offering calculations on how petrol costs more now than it did under the UPA government.
Reduced rates benefit businesses immediately. Reducing rates on fuel now means playing havoc with the fiscal situation at a time when risks are high, more spending may be on the cards given the coming election season and will inevitably mean more hardships for the common citizen as such measures will stoke inflation. In that sense, yet again, reducing taxes will benefit the upper sec- tions and not really bring any relief to the poor.
In fact, a false debate is being created on bringing fuel under the GST. This focuses the argument on taxes, falling into the trap of voices that have often argued with less interest on long term viability and sustainability and more on shorter term gains for narrower interests. What is interesting and surprising is that the government is seen as feeding and echoing some of these voices, running the risk of playing one side of the match.
Whatever the spin on the India story, the admitted position is that the Indian economy has structural limitations from the supply side of growth. Our growth trajectory is broadly demand-led. Furthermore, we have relied too much and too often on services-led growth at the cost of manufacturing and agriculture. These imbalances will show up every now and then, applying breaks and making the growth trajectory jerky.
The fiscal position of the Central and State governments continue to be in the unsustainable zone. There was hardly any market reaction when the Central government in its budget for 2018-19 announced that the fiscal deficit (which represents borrowings by the government) will be the target variable and revenue deficit (which represents borrowings for current consumption) will not be targeted anymore. This means that the total of two kinds of spends (one for every day consumption expenses running the government and the other for building the nation) will be jointly watched as one. The important break up between these two kinds of spends would be lost. What results usually is loose spending on the consumption side and less spending on building assets for the future.
With books balanced on such a weak footing, any shock can become too much to bear.
Take the example of the depreciating Indian currency. The rupee has crossed the Rs 68 to a dollar mark, and reports say this will likely cross 70. There are primarily two factors seen as contributing to this development: (a) higher oil price imports contributing to higher import payments, and (b) outflows by foreign portfolio investors as risk and uncertainty are looming large consequent upon the falling rupee. But, the root of the problem is elsewhere.
The problem is that we tend to celebrate a temporary change in the weather, and do not learn to make hay while the sun shines. This is precisely the story of opportunities wasted when conditions were favourable over the past three to four years. Now, the weather has changed and we do not have the wherewithal to shield ourselves.
Oil price impact is after all an external shock. We have always addressed the symptom, ie the falling rupee, and not the cause, which is lack of exports. India’s exportable goods do not enjoy a favourable demand abroad. Therefore, we have not received the gains from trade on account of the falling rupee. We have to enhance foreign demand for our products by diversification of products and services and building the export market. We have, often, if not always fallen short of export targets outlined in our export–import policy.
Achieving this is a difficult, day-to-day grind. It isn’t the stuff of headlines, proclamations or celebrations. The hard work is the stuff we fall short on or divert attention from when we crow about our so-called achievements, which are only gifts of the particular weather pattern for the near term.
The longer term solution to higher economic growth lies in efficient fiscal governance, elimination of revenue deficit, higher capital expenditure, with emphasis on appropriate return on capital investment, and a focus on delivering services to the poor. Enhancement of investment in agriculture with diversification of agricultural and allied products such as vegetables, pulses and animal protein will address concerns on food inflation.
The constructed myopia of the market does not address the long term sustainable issues. It is good for the government not to become an echo chamber of these narrower interests.
Reduced rates benefit businesses immediately. Reducing rates on fuel now means playing havoc with the fiscal situation at a time when risks are high, more spending may be on the cards given the coming election season and will inevitably mean more hardships for the common citizen as such measures will stoke inflation.
Rattanani is a journalist and Pattnaik is a former central banker. Both are faculty members at SPJIMR. (Syndicate: The Billion Press)