Is India's still water economy shining?

Where is India’s economy heading- any clue?

As the country gets embroiled in so many unusual happenings like scams which are surfacing on a daily basis, there is a missing link in the governance and perception about the state of the economy, where does it lie in the midst of economic ruins of growth, or world trade? Any body has bothered making an empirical analysis on the state of the Economy? Planning Commission is busy wiping out the residue of outlays of the 11th Plan while trying the grasp the inputs and working the methodology of the 12th Plan, which is going to be a vast expanse of the country’s exchequer.

In spite of 12 attempts made to raise the interest rate since last March, RBI has no clue as to how to control the galloping inflation, both headline, food inflation which has been playing hide and seek, and crossing double figures when the expectation is that it is going down. There is quiet an unease between Government and RBI. Government is completely at a loss to rein in inflation. Worsening the inflation problem through periodic hikes in administered prices, especially Petroleum is widening the Balance of Trade – Balance of Payment positions. Combating inflation through sharp rise in interest rates has made cost of Credit higher with the result that GDP growth has come to a halt, and may not even cross 7% unless some miracle happens. Economic development initiatives do not produce economic growth because of the stagnancy in the industrial growth. Real returns have gone negative, capital formation stands still, FDI has come down, Industrial activity is at a low ebb, and stock markets are plummeting.

The sudden devaluation of the Rupee, Rs 50 to a $ 1, has made exporters jubilant, but country as a whole and the Government in particular needs to worry about Balance of Payment position not only from trade but also from debt and forex volatility as its expenditure on this account will increase proportionately. During the last 3 months, India cut the US debt exposure by US $ 4.20 billion (withdrawing it from US Treasury Bonds-debt securities) and presently, India’s exposure stands at US $ 37.9 billion against US $ 42.2 billion in June 2009 and US $ 42.1 billion in April 2011. India’s present Forex Reserves stand at US $ 316.76 billion as on September 2011.

While, RBI raised the Repo and reverse Repo rates, there would been consternation and pandemonium by the powerful Corporate lobby of India. But nothing of that sort happened. Why?

The Government of India raised the limit of External Commercial Borrowing in a single financial year from US $ 20 billion to US $ 30 billion. External borrowing from international market for the six months ending Jan 2011 was US $ 12.2 billion and subsequent 6 months ending July 2011, it peaked to US $ 19.3 billion. It was reported that there was a 60% surge in ECB during the period March 2010 to date, when the cost of Credit went up from 3.25 percent points to 8.25 percentage points which is the base level interest RBI charges Banks. A further factoring of this is what it would cost to the Corporate. The differentials in the interest rates which douses break even for businesses, and when interest rates between external and domestic market widen, the tendency of big borrowers is to borrow from abroad to meet domestic expenditure and augment finance their expenditure plans in the domestic markets. There is a mismatch between the currency in which debt service commitments on external loans must be made and currency in which revenue are garnered from the domestic market oriented activities that are financed by such loans. Debt service commitments in Rupee terms can rise sharply if there is depreciation of domestic currency (like Rs 50= $1) neutralizing the benefit of a lower interest rate externally. This also results in the Current account deficit rising, Balance of Payments over-shadowing Balance of Trade. The weaking of the rupee forces the external commercial borrowing to rise, which is a serious cause for concern. The hard earned export proceeds which could be used to import capital goods, technology up gradation and vitalizing the crucial infrastructure growth. The borrowing in f March, 2010 stood at US $ 5631 million, July 1, 2010 at US $ 4189 million, and Dec 2010 @ $ 3416 million. In addition to raising the limit by US $ 10 billion during a Year by way of External Credit Borrowing, the benign Government also increased the cap of borrowing by individual firms in micro finance, services, infrastructure, others (for loans with maturity of more than 5 years under the automatic route) from US $ 5 million to $ 10 million, $ 100 million to $ 200 million and $ 500 million to $ 750 million permitting use of External credit Borrowings to refinance Rupee loans.

We are making a big noise about 2 G Spectrum FCFS sale. The Telcom companies which bid for Spectrum 3 G acquisitions have exploited this facility substantially. This increases the BoP which restrains its use to buy machines, capital manufacturing equipments which would have provided higher productivity. Foreign Exchange Reserves need to be used to pay off the debt obligations. And what happened to the $ 4.2 billion government withdrew from off loading US treasury Debt bonds?

Corporates are using ECB lever to counter the sharp rise in interest rates in the domestic market. This increases external vulnerability, which has been responsible for the stand off between RBI and Finance Ministry. Does the Government have any ready made formula or solution to bring down the inflation? Is it in a position to take some concrete steps?

Speaking to journalists, India’s Finance Minister who had gone there to attend the IMF and World Bank after creating a storm in the tea cup way back in the North Block, spoke of the crisis manifested in different forms in different countries. He attributed the risk aversion to the global investors who wanted to peddle softly in the emerging markets which was beset with higher BoP problems due to 70% of the Crude Oil imports. He wanted the world to take serious note to mitigate the problems unitedly. From where will the silver lining come, beset as we are with the darkest clouds!