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Can India's economic recovery last?
Wed, 10 Sep Pre-Open

If the run up in the Indian stock markets is anything to go by, it would appear that the economy's in the pink of health. If stock markets were always a leading indicator of an economic recovery then there would be nothing to worry about. Alas! This is not always true. Markets are prone to regular bouts of irrationality. If markets were always driven by economic reality, then they would not be trading at such high levels today.

Consider the facts. GDP growth for the April-June quarter 2014 came in at 5.7%, the fastest growth in nearly two years. However, it is unlikely to be sustained without reforms. A large part of the growth was due to election spending and rebound in manufacturing activity from a low base. The sustainability of the economic recovery is certainly in question due to the fact that services growth (which constitutes over 55% of GDP) has slowed down.

Then there is banking sector to be considered. Not only are PSU banks under the NPA burden, credit growth is also at a four and a half year low. In such a situation, forcing them to lend would do more harm than good. On the other hand, if credit growth remains low, GDP cannot be expected to grow fast.

Even India's external sector is not out of the woods yet, despite the fall in the current account deficit (CAD). Exports may be rising but if global growth were to slow down, it will have an adverse effect on India's external sector. What must also be kept in mind is that the CAD has been brought under control only due to harsh measures against gold imports. These will have to be reversed over time. Additionally, the imports of gold and crude oil have been stagnant recently. This is certainly not a sign of a healthy growing economy.

Thus one thing is clear. If the market rally is to sustain, economic growth will have to pick up. This will only happen if the government displays some boldness with respect to reforms. Incremental improvements in efficiency and governance are a good start but these moves will not sustain GDP growth for long. Only real reforms can do that. The Modi government certainly has the mandate to be bold in its economic decision making. It must now follow through.

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