The secular decline in the rates of savings and investment in the Indian economy and their adverse consequences on economic growth is a matter of serious concern. Although after the recent revision in the national accounts (taking 2011 as the base year), inter-temporal comparisons are strictly not permissible, one can nevertheless infer broad trends. The overall savings rate has declined from 36.8% in FY08 to 30.6% in FY14—mainly due to the sharp decline in the household sector savings, from 22.4% to 18.2%, and public sector savings, from 5% to 1.6%, during the period. Equally worrisome is the decline in the financial savings of the household sector relative to the GDP, from over 12% in FY10 to 7% in FY14. Similarly, the rate of gross capital formation has declined from over 38% in FY08 to 32.3% in FY14.
Anecdotal evidence also points towards a decline in the productivity as well. As detailed in the Economic Survey, the weak profitability and over-indebtedness of the private corporate sector has constrained its capacity to make new investments. The difficulties of land acquisition, environmental and other clearances and fuel supply have not only stalled many projects—most of them in the infrastructure sector—but also have reduced capacity utilisation for others. The lack of clear bankruptcy laws has not helped matters. Investment stuck in stalled projects amounted to 7-8% of GDP in the last four years. Many road and power projects—many of them in the PPP mode—suffer from birth defects arising from aggressive bidding in the good years in the past; these are inherently unviable and require re-negotiation and subsequent contracting. Since a lot of time has elapsed after the projects were initiated, there are significant cost over-runs that have compounded the problem further. These have severely impacted the non-performing assets (NPA) position of commercial banks. The banks neither have the funds to lend nor are they willing to take risks after having burnt their fingers.
The solution suggested in the Economic Survey is to focus on public-sector-led investment revival. Indeed, an overwhelming proportion of infrastructure-spending will have to come from the government, and increasing capital investment is important. The Survey argues that project implementation risks are too high for the private sector to bear due to weak institutions and high transaction costs and, therefore, the public sector will have to take the lead in reviving investment climate. The implicit assumption is that the public sector has the better capacity to deal with these weak institutions, notwithstanding the massive cost and time over-runs in every public sector project we have seen over the years.
One estimate is that, at the present rate of investment, it would take 150 years to complete the projects commissioned by the railways. The story is not very different in irrigation, power, shipping and transport projects.
Surely, the world over, the public sector takes a predominant role in infrastructure investment. Unfortunately, in India, private sector participation and public private partnerships (PPP) had to be resorted to, mainly because the public sector did not have the resources for making the investments nor had it shown the necessary alacrity and efficiency in either completing the projects taken up or in running them efficiently. Given such a history, it is not clear how we can put the burden of reviving the investment outlook on the public sector. In other words, it is important to find strategies to unblock the stuck investments and rework the contracts in a transparent manner, without entailing moral hazard or giving the impression of a soft state, to revive investment in infrastructure projects, including PPPs. There is also a need to relook the environmental clearance norms and procedures and land acquisition issues for infrastructure projects. It may also be necessary to rework the non-performing asset and lending norms—at least, for a temporary period—and undertake measures to ensure greater liquidity in the banking system.
The Budget poses investment revival as a challenge between fiscal consolidation and growth. While both, the Economic Survey and the Budget speech, reiterate adhering to the fiscal consolidation in the medium term, they see that the only way out at present is to loosen the public purse to galvanise investment, even by relaxing fiscal targets. The reasoning is that in the prevailing environment, where the private sector is reluctant to make investments, increasing pubic investments is the only way forward and that this will crowd in the private investments and, therefore, we should worry about the fiscal consolidation only in the medium-term. Not surprisingly, the Budget postpones achievement of the deficit target by a year and, for FY16, relaxes the target by 0.3 percentage points.
In this context, two important questions arise. First, has the relaxation of fiscal targets led to an increase in public investment, and could this not have been achieved by adhering to the targets? Second, is the reluctance of the private sector to invest not related to the heavy borrowing by the Union and state governments? As regards the first, the capital expenditure of the Union government continues to be budgeted at 1.7% of GDP in FY16, even after relaxing the target—this was the level budgeted in FY15. Of course, there is increased investment spending by the public sector enterprises, but that does not require the relaxation in fiscal targets. It is also not correct to state that the fiscal space was squeezed by the Finance Commission award because, as argued in my previous column (“The wait for acche din just got longer”, goo.gl/gPrhav), the Commission has only increased the block transfers through tax devolution and not increase in total transfers.
As far as the second issue is concerned, as long as the government continues to borrow heavily from the financial system, the private sector will be starved of funds. When the household sector’s financial saving is just about 7% of GDP, if the Union and state governments continue to borrow 6.5% and another 2% is taken by the public sector enterprises, there is hardly any money left in the market for the private sector. The reduction in the SLR does not prevent the banking system to continue to hold government securities in the prevailing climate, where lending to the private sector has a high-risk premium. This is particularly true of the public-sector banks which dominate the banking system as no questions will be asked if the money is invested in government securities. Even when RBI reduces the policy rate, it won’t be transmitted in terms of lower lending rates because the banks would continue to attach high-risk premium for private-sector lending. Furthermore, the administered interest rates on provident funds and small savings places a floor on the deposit rates. The only way forward is to reduce the fiscal deficit at the targeted level and undertake measures to enhance the financial savings of the households. Until then, we will have to wait for the acche din.
The author is the former member, 14th Finance Commission, and emeritus professor, NIPFP).