The tell tale signs of economic slowdown are all too obvious now - slowest expansion in factory output in 2 years, manufacturing slowdown, contraction in services PMI and a negative capital goods output, reflecting the dire state of investment spending in the country. So do these spell doom for the Indian economy yet ?
A lot of the problems can be attributed to high inflation impacting demand. Successive round of interest rates have not just failed to tackle inflation, they have made the situation worse by impacting credit offtake, affecting investment cycle and dragging bottomlines of the corporates due to high finance charges. While depreciation of rupee versus dollar has already worsened, if oil prices also show remain firm, it will only make things difficult.
Industry wise, bad debts are raising their ugly heads in the banking segment. Further, high interest rates coupled with rising fuel prices have slackened the demand for vehicles. Unfortunately, these have come along with the slowdown in the developed markets, thus stifling exports and raising the trade deficit to 4 year high levels. This along with the falling tax collections will make the fiscal deficit target of 4.6% unattainable. If we overshoot this target, the Government will need to borrow more thus pushing up the interest rates and sucking up funds that could otherwise have been used as private investments. To cut a long story short, we have ended up in a catch 22 situation. The bigger question is - is there a way out?
Well, to begin with, despite an inflationary scenario, we need to bring more liquidity into the system. While a rate cut seems out of question, an alternate way to do this would be bond sales, so that firms can borrow from the market. But then this is just a cosmetic solution which may work for sometime but will hardly get to the root of the problem. The need of the hour is to be more liberal. This will involve steps like opening up our retail sector, raising FDI limit in insurance and divestment in public banks to infuse more capital from the market. What we are going through is a structural crisis, and what will be needed to sort it out are structural reforms. If taken in time, the light at the end of the tunnel will be in sight.