Why 9% growth may not be good for Indians...

Mar 2, 2011

In this issue:
» Oil prices could soon be headed southwards
» Real estate promoters forced to shell out more equity
» Government takes subsidy lessons from Bihar
» Inflation bites into China's manufacturing
» ...and more!

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The Indian Finance Minister may have prayed to Lord Indra and Goddess Lakshmi during his Budget speech. But the country's central bankers are the virtual Gods whose divine intervention is expected to slay the inflation monster. Unfortunately, the man at the helm of affairs believes otherwise. The RBI governor Dr Duvvuri Subbarao knows a thing or two about inflation. After all he has combated headline inflation (WPI) in excess of 10% twice in the past two years. But the challenge seems to be far from over. Dr Subbaro believes that interest rate hikes cannot be the only solution to the steep rise in price levels in India. And with the WPI again above 9% the central bank does not have too many weapons in its armory.

The Union Budget may have brought in cheers to the market. A fiscal roadmap, better accounting for subsidies, focus on skill building and rural employment are certainly in India's long term interest. Add to that the fact that India is looking at 9% + GDP growth in the next fiscal despite oil prices over US$ 100 a barrel. Given the precarious state of developed markets and the Middle East, India certainly has sufficient room to rejoice. But a caveat is in order here. Our celebrations may be very short-lived if the government does not take proactive participation in inflation control.

Even if individuals and companies find more money in their hands thanks to fiscal benefits; consumption and capex may be deferred. The steep prices of commodities and high interest rates may dissuade fruitful employment of the excess liquidity. Also with most of the fixed income returns getting eroded with high inflation, the government's debt may only get costlier. Hence we believe that even a 9% GDP growth rate may not be good for India. Instead of basking in its glory, the policy makers need to step up action to ensure higher consumption and investment in the economy.

Do you think higher GDP growth alone can safeguard India's long term prospects? Let us know your views or post them on our Facebook page.

 Chart of the day
While inclusive growth may not have been part of India's growth strategy so far, the per capita availability of some critical items has certainly increased manifold. As today's chart shows, amongst other, the per capita availability of electricity has grown 3 times in the last two decades alone. Agricultural outputs have lagged in terms of growth in per capita availability. Going forward, we need to see to it that the resources are more equitably distributed, especially amongst the poor.

Data source: Economic Survey 2010-11

Crude oil prices could well be some distance away from its all time highs. But what about monthly all time highs? The popular US magazine Fortune has pointed out that highest prices reached in Feb 2011 are only marginally behind prices reached in Feb 2008. Remember this was the year when crude prices went on to create a new price record? What this does is that it makes the possibility of another US$ 140 crude oil or may be even more in the short term, very real indeed. This spike though has more to do with fear than demand-supply factors, asserts the magazine.

After all, there is still spare capacity in OPEC and the IEA also has over 1.6 billion barrels of oil in storage. Thus, these two put together can easily replace Libya's production if it were to come to that. In view of this, the surge in oil prices is indeed perplexing. The only possible explanation seems to be a sense of great fear that the unrest could spread to other mid-eastern countries. But there is a big positive in all of this believes the magazine. Unrest, like it has done for other countries, could mean democracy and liberalisation and thus, greater investment and production in the future. After all, even Russia and Iraq that had gone through troubled times before, produce more oil now than ever. Thus, the fear could be misplaced and the oil price spike unjustified. An interesting point of view we should say and the one that cannot be ruled out.

The real estate sector has been known for murky dealings, political linkages, and more importantly, BIG money. A can of worms was however opened in the aftermath of the bribes-for-loans scam. This scam involved bankers accepting kickbacks for loans. The 2-G airwave scam also involved many real estate players. Bank loans to the sector took a hit post these scandals. Real estate officials stated that the number of new projects have halved during the last three months. Lack of funding and lower demand on account of higher prices were the main reasons.

Banks are now more careful in their dealings with the sector. They are also against dealing with intermediaries, and require clear land titles before any sanction takes place. Bankers are now demanding higher equity contributions and even personal guarantees from developers. Usually a separate SPV is formed to undertake large projects, funded by equity from promoters/developers, advances from buyers, with the rest coming in from banks. Banks would earlier fund 40% of the project. Promoters would put in 25-30% of equity. However, state-run bank officials are now demanding 50-60% real estate promoter equity! With sales drying up due to high prices, developers need to contribute the shortfall. Well, hopefully these measures will help reduce bank write-offs and bring accountability and transparency in the space. But with the developers being cash-strapped themselves, some projects may still not see the light of day.

The inflation bug is biting China too. This was evident in the manufacturing numbers that were released in the country. As per data, China's manufacturing sector expanded at the slowest pace in six months. This was because higher interest rates and lending curbs aimed at containing inflation dampened demand. Indeed, various factors have contributed to the rise in consumer prices. For starters, drought in China hampered food production. This has led to a rise in food prices. Oil prices are also inching upward fuelled by the ongoing crisis in the Middle East. This has led the Chinese government to increase the prices of gasoline and diesel. Furthermore, the liquidity injections by the US and Europe have increased surplus cash which is being poured into China as well as other emerging economies either in the stock markets or property. With the Chinese Prime Minister reiterating his stand of bringing consumer prices under control, further rate hikes cannot be undermined. Hence, although China's GDP and manufacturing growth may still be above its developed peers, some sort of a slowdown seems imminent.

There was a time when Bihar was considered to be the 'sick state' that was hampering India's growth. But the results of the state's policies have completely revamped this notion. In fact, the state is all set to outperform the overall country's growth in 2011 as well. So it does not come as a surprise that the Centre plans to take a few pages off Bihar's book on subsidies.

The recent budget proposal of transferring cash subsidy on kerosene and LPG is in fact a policy that had been adopted by Bihar. It is now being replicated for the entire country. Some other schemes that are being adopted nationwide are the 'bicycle scheme' for girl students wherein the girls are given cash directly to procure a bicycle as well as a school uniform. The idea behind directly transferring subsidies to the beneficiaries is to avoid any system related leakages. We feel that if the Centre adopts such direct transfer policies for all the subsidies, then it is a key step in

India has been constantly facing twin problems of burgeoning current and fiscal deficit. While the external deficit is major cause of concern, rising share of subsidies has ensured that the fiscal gap continues to remain unplugged. Now, considering that India's subsidy bill is likely to double on account rising food and petroleum prices, we do not expect the fiscal gap to be plugged anytime soon either. It may be noted that the government typically subsidizes essential items like petroleum, food and fertilizers so as to shield the common man from unanticipated price rises. However, this subsidy burden creates fiscal imbalance. Rising crude oil prices and increase in food inflation is likely to inflate the subsidy burden further. In the recent budget the government has laid down an aggressive road map for reducing fiscal deficit. However, with rising share of subsidies it is interesting to see whether the plan actually materializes or not. De-controlling diesel prices could be one of the options to reduce the subsidy burden and bridge the fiscal deficit. But it is interesting to see whether the government will bite the bullet as decontrol would mean a further rise in inflation.

While the Indian stock markets were shut today on account of Maha Shivratri, its peers in Asia had a very week outing. Markets across Asia closed lower today with Japan and Hong Kong leading the pack of losers. The European markets have also opened on a negative note.

 Today's investing mantra
"It is natural to assume that industries which have fared worse than the average are "unfavorably situated" and therefore to be avoided. The converse would be assumed, of course, for those with superior records. But this conclusion may often prove quite erroneous. Abnormally good or abnormally bad conditions do not last forever. This is true not only of general business but of particular industries as well. Corrective forces are often set in motion which tend to restore profits where they have disappeared, or to reduce them where they are excessive in relation to capital." - Warren Buffett

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13 Responses to "Why 9% growth may not be good for Indians..."

Manoj Kumar

Mar 4, 2011

Higher growth is definitely needed but there are a few pre-requisites: i) not at the cost of environmental degradation, ii) not at the cost of increase in the spread of corruption, iii) the systemic reforms are a must to make not only the investment and entrepreneurial environment more equitable but also to make social and administrative environment more just, fair and responsive to the common law abiding citizens' needs.


k satyanarayana rao

Mar 4, 2011

I think Highe GDP is needed at the same time Purchasing power at the individual level is must to balance. At higher inflation levels consumption decreas and the economy will go in to depression in cycle.


Vinod Furtado

Mar 3, 2011

What's the logic for wanting Buffett to buy stakes in Indian companies?


Jyothi Kumar

Mar 3, 2011

In inefficiency we thrive!

The basic premise on which economics is based is lower transaction costs be it buying/selling goods or services. However, in India we have built and sort of inefficiencies that help the middle men become rich. Be it touts at Tirupthi who take money to push you up the queue, I bankers who create information assymetry to missell companies while taking $Mn bonuses or the cutodians of the public property namely ministers who under sell the resources..

So i am not surprised with the unwillingness of govt o remove the middle-men by bringing in FDI in retail. Secondly, I differ to your view that anything that is not being efficiently delivered needs to be privatized rather than making the government accountable...


Mohanasundaram SM

Mar 3, 2011

9% growth is definitely not good for indians. When the govt. borrows and spends money like crazy, inflation is inevitable. Add to that the rising fuel prices around the world due to dwindling oil reserves. Indian economy is doomed if we try to grow fast. What we need is a sustainable economy.
Instead of borrowing and subsidizing diesel, the Govt. should focus on primary education and health care. The markets will take care of the rest.


Nalin K. Nirula

Mar 2, 2011

When short term interest rates are higher than long term rates as currently, borrowing based capital expenditure is discouraged. Coupled with inflation, any savings component of incomes is likely to be diverted to safe-haven assets like gold, silver and cash savings.

This would affect consumption demand in things like long term assets (house building, small industry and business infrastructure expansion etc). There is also a scaling down of personal expenditure demand.



Mar 2, 2011

Higher GDP Growth means higher the commodity prices. One has to cool the growth for keeping the inflation in control.Hindu rate of growth is sufficient for India. We should make the supply chain efficient and constrain the demand by avoiding wastage. Govt. should frame the policy such that people should not be able display vulgar show of the wealth.



Mar 2, 2011

The actual problem in India is the absence of governance. We have seen, the Government keeping quiet to fulfill 'obligations' of coalition politics - no matter whatever amount of leakage/plundering happens. And when it comes to breaking silence, we end up hearing lame excuses, false promises that never get delivered.

Then, Indian savers continue to live under real negative interest rate regime, for years and years. In other words there is no incentive to savers.

Indian equity investors are 'usually' left at the mercy of Foreign Institutional Investors (read: very high profile gamblers with extremely deep pockets).

Though there is substantial reserve of food grains, they rot in FCI godowns to maintain 'Food Inflation' in excellent bull run.

3G Revenue Bonanza. The less we talk about the way it is 'productively' put to use, the better it is.

Subsidy removal - well, good idea. What does it really entail/achieve? Will the taxpayer money be put to 'effective' use? Unfortunately the track record of Government leaves a lot to be desired.

Growth (inclusive or divisive or lack of it), Inflation (high or low or moderate), Subsidies (and the need to do away with them) - perhaps all are intellectual debates. Sure, these debates generate substantial quantums of intellectual capital. Sad part: nothing of that can really translate to ground level reality when there is no governance.

Perhaps we are very much ahead of time to initiate a fresh debate - whether 9% growth is sufficient or 90% growth is the need of the hour!


Alok Misra

Mar 2, 2011

I do believe that the Reserve Bank Governor is Right.A massive part of the subsidies goes into the pocket of those who are responsible of disbursing them. This money goes into the hands of crook business man dealers of fair price shops etc and never reaches the consumer for whom it is meant. This has been going on for long. In fact my estimate is besides the swiss money this money is three times the normal money in circulation. A patent theory n the subject says that in such a situation the black money rides over the white money and the other efforts to control the inflation become inffective.This had happened in Mexico and also in Brazil.The net result was demonetization of the currency. I believe besides this siphoning of the money to swiss having come in trouble, now that International Scanners are on ,There is deep crisis in India. So the effort of Bank are not likely to Succeed until this money is brought out.Also there is continuation of Corruption in Govt departments so it is being generated all the time. All this must stop and Corrupt must be caught immediately. There is no other way!


Balakrishnan R

Mar 2, 2011

We should specialise in optimum utilisation of water for agriculture. We should export agribased products. For this we have impart training. Once we can do that, inflation shall be under control as well as current deficit also may disappear.

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