The Planning Commission, after considering the global and domestic constraints, has revised the 12th Plan growth target downwards to 8%. However, even this lower growth target will require considerable policy initiatives to enhance economys growth potential. Given that the economy is likely to register less than 6% growth in the current year and both domestic and international environment may not permit a growth rate more than 7% next year, the remaining three years of the plan will have to register more than 9% growth. This would require a repeat of the 2005-08 performance, when Indian economy grew at more than 9%. With the savings and investment rates relative to GDP reaching 36.8% and 38%, respectively, in 2007-08, the growth potential of the economy expanded considerably. The consolidated fiscal and current account deficits were contained at 4.65% and 1.8%, respectively, which were the lowest in recent times. In the prevailing domestic and global situation, achieving an average growth rate higher than 9% for three years will be a major challenge and this would require significant reform initiatives.
What will be the drivers to enhance the growth potential The answer to this lies in understanding the factors that caused deceleration in Indian economy after 2007-08 and these include both international economic environment and domestic factors. While the global financial crisis in the aftermath of the Lehman episode in September 2008 eventually impacted the real economy to cause a major economic downturn in the US, the eurozone crisis added to the problem to make global recovery a mirage. Indeed, the eurozone has a serious birth defect in the sense that a monetary union without a fiscal union is an unsustainable arrangement.
From Indian perspective, the slowdown in OECD countries has decelerated exports, continued high oil prices have increased imports and persistence of high inflation rates has buoyed demand for gold imports resulting in a sharp surge in the current account deficit. The current account deficit in the second quarter of the current year at over 5% of GDP is clearly unsustainable.
Global environment is only a small contributor to the slowdown; the problems caused by domestic policies were even more important. Of course, there was significant fiscal consolidation from 2003-04 to 2007-08 due to buoyant income tax and service tax revenues and lower interest outgo. However, the large increase in expenditures in 2008-09 for public sector pay revision, farm loan waiver and expansion in the coverage of MGNREGA, and significant escalation in oil subsidies when the international crude oil prices peaked to $165/barrel in July 2008, led to sharp deterioration in fiscal situation. The consequence of these developments was to increase the fiscal deficit from the budgeted 2.5% of GDP to 6% in 2008-09. Of course, this stimulus helped in soft landing the economy and ensure a fast recovery during the crisis with the growth rate accelerating from 6.7% in 2008-09 to 8.4% in the next two years. However, as much of the stimulus was consumption and not investment type, sustaining growth at high rates was not possible, and as significant portion of the stimulus was irreversible, compressing the fiscal deficit continued to pose difficulties.
Not surprisingly, following the sharp decline in domestic savings and investment, there has been a significant decline in the growth potential of the economy. The savings rate, after reaching the peak of 36.8% in 2007-08, declined to 30.4% in 2011-12, and the investment rate declined from 38.1% to 34.7% during the period. The decline in the savings rate was mainly due to the decline in public savings from about 5% of GDP to less than 1%.
Further, with inflation, particularly consumer price index raging at close to 10%, the household sectors savings in financial assets declined sharply from 11.6% in 2007-08 to less than 8% in 2011-12. On the investment side, there has been a sharp decline in the gross capital formation of the corporate sector from 17.3% in 2007-08 to just about 12.1%. The reasons for the slowdown in investment are not difficult to find. High interest rates, infrastructure blues particularly the availability of power, land acquisition issues and the difficulty in getting clearances are the major factors that have led to decline in the growth potential of the economy.
Reviving and sustaining the growth momentum, therefore, requires effective control of fiscal deficit, actions on the infrastructure front and improvement in governance to place clearances on a fast track. With elections due in the middle of 2014, fiscal consolidation will continue to be a major challenge, for the growth of revenues continues to be sluggish and there will be additional expenditure commitments on food security and universalising healthcare. It is, therefore, important to enhance the Centres tax ratio that peaked in 2007-08, and one of the ways to achieve this is to minimise tax preferences, professionally mine the data from the tax information network and compare the information from other taxes to identify potential evaders.
Another important policy initiative should be to compile a comprehensive record of the land possessed by various government departments and evolve a mechanism to monetise the value in a transparent manner.
This could help to generate revenues for public investment in infrastructure and particularly important source for financing infrastructure like railways where considerable investment is needed to renew the tracks, lay new ones, improve infrastructure for passenger safety, create dedicated freight corridors and initiate high-speed rail network. There are governance issues that include fast-tracking the clearances and ensuring proper coordination between various infrastructure departments to ensure a coordinated development. The Cabinet Committee on Investment can help in getting fast clearances for major projects. The enactment of the Land Acquisition Bill will also clear some uncertainty on that front.
All these will help in raising savings and investment levels and the growth potential of the economy. Hopefully, there will be many initiatives in 2013 to take the economy back to 9% growth rate on a sustained basis.
The author is director, NIPFP. Comments welcome at [email protected] Views are personal