Raghuram Rajan points the way; would Chidambaram follow?

This blog post is not for you if you are one of those who look forward to the release of the economic survey every year. Or if you wonder what economic intuition would be shared through the cover page illustration. Or if you enthusiastically read the 300 pages of bureaucratese about the Indian economy. Or if the prospect of trudging through 150 pages of statistical abstract makes you giddy with delight. Or if you instinctively feel blue if the colour of the ink a tad too depressing for you.

However, if you have no clue about what I just said, then this blog is for you and I could shamelessly attempt to tell you the story of Indian economy as if it has not been told this year until now. Anyway, here goes.

In response of the global crisis of 2008-09 and its adverse impact on India’s economic growth, the government came out all guns blazing. There was a massive stimulus, both monetary and fiscal. Some of it, like many achievement in life, was unintentional like the farm loan waiver.

In the short term of the next two financial years, the stimulus arm-twisted the economic growth from 6.7 (2008-09) to 8.6% (in 09-10) and 9.3 (in 10-11).  Arm-twisted? Because this was consumption led growth, not matched by a commensurate surge in investments. Every time that happens, economic growth  follows the law of gravity. As such, the GDP (gross domestic product or, in simple language, the value of total economic activity within India’s borders) growth rate fell to 6.2% (11-12) and further slipped to 5.0% (12-13).

In the mean time, the result of the fiscal muscle flexing of 2008-09, and the resultant boost in consumption, is the persistently high inflation rate and gaping fiscal deficit.  In other words, on the one hand the prices of various commodities continue to rise at a fast clip. On the other hand, the government has got into the rather naughty habit of spending more than it earns. The fiscal deficit has grown from a puny 2.5% of the GDP in 2007-08 to 6.5% in 2009-10. It continues to give both the finance minister and his fr-enemy, the RBI Governor sleepless nights at 5.1% in 2012-13.

RBI tried to wrestle down surging inflation by raising the interest rate by 3.75% points between March 2010 and October 2011. But, for most part, it only led to further suffocating the industry, especially manufacturing, already gasping for investment. The last discomforting bit was the slowdown in the services sector. Services had been the Sachin Tendulkar of Indian economy, single-handedly posting double digit growth rates. But like Tendulkar, Services too suffered a slight slump in form in the first half of this financial year. And we all know how England beat us at home when Tendulkar struggled!

So on the face of it, on the budget eve, we are smack in the middle of a perfect little economic storm. Our growth is slipping, our investment rates are low, inflation is high and persistent, and government deficits are of the worst kind (revenue deficit is 3.5%  or in other words most of the deficit amount is spent paying day to day expenses instead of long term investments). And if you look outside, the global economic climate is not strong enough to pull us out of the slowdown.

So what’s the way out for India? Thankfully for you and me, instead of us, P Chidambaram faces the unenviable task of answering that exasperating question. But the new Chief Economic Advisor and the main author of the Economic Survey, Chicago Booth economist Raghuram Rajan , points to the direction in which his minister may find the answer.

By the way, that is the basic purpose of an Economic Survey – state the problem and drop a hint!

“The bottomline is that India cannot take the external environment for granted, and has to move quickly to restore domestic balance,” states the survey.  Crudely put it means that government will have to learn to live within its salary, or the revenues. But if the economy can't grow fast, neither can revenues.

So if the economic survey is anything to go by, here is how we will ride out the storm: Government cuts down its expenditure and by doing so, reduces the overall demand in the economy, which, in turn, was fuelling inflation. On the supply side, government should aggressively push for increasing agricultural production. Ideally, these measures will bring down inflation and convince the RBI to loosen its purse strings and reduce the interest rates in the economy. As that happens, businesses would feel encouraged to invest more.  And just like Tendulkar and Dhoni, services and manufacturing will recover their best form.

If all this happens exactly in that order and other things, like a oil price shock, do not happen, the Survey says “the overall economy is expected to grow in the range of 6.1 to 6.7 per cent in 2013-14.”

Essentially, this is what the economic survey for 2012-13 says. But while much of the survey is based on decades-old templates, it also bears a special imprint of the country’s Chief Economic Advisor. Recent convention has been that the second chapter of the survey is a window to the economic soul of the CEA.

As such, Rajan replaces Kaushik Basu’s (the previous CEA) regular chapter - intriguingly titled “Micro foundations of Macroeconomic Policy” -  with a chapter on “Seizing the Demographic Dividend.”

The title is so clichéd that I won't resent if you stopped reading me in the last para itself! But if you are still with me, here’s the dope.

Without actually saying it, Raghuram Rajan, pans the UPA’s basic approach to inclusive growth. For most part the UPA government has tried to provide basic minimum social security by doling out money in the shape of one scheme after another. Hence, you had the National Rural Employment Guarantee Act and Farm Loan waiver, attempting to place a band-aid on the terrible rural reality of India. Higher growth came with higher inequalities, falling educational outcomes and increasing unemployables in the urban areas, distress in agriculture resulting in massive migration to cities wholly ill-equipped to cope, growing social ills and frictions between the haves and have-nots.

And while the social welfare schemes of the UPA won it a second term, they have also led us to the present conundrum.

Rajan’s famous ability to call a spade a spade comes through when the survey states, “the future holds promise provided we can answer the question that is probably foremost in the minds of India’s young population: “Where will my job come from?”

The key message of the survey to the government then is to create an economy where every willing man (and woman) can fish for himself, instead of running massive deficits, which do not invest in India’s long-term sustainability.

"Because good jobs are both the pathways to growth as well as the best form of inclusion, we have to think of ways of enabling their creation."

I do not know how far it is politically possible for the finance minister to re-orient expenditure, apart from sharply cutting it. However, through the survey Rajan has given his tuppence to this finance minister and next.

Rumours are abuzz that this is not only Rajan’s first but also his last Economic Survey and that he is set to replace Duvvuri Subbarao as the RBI Governor later this year.

And as double Oscar award winner Christoph Waltz's character tell us in Tarantino’s Inglorious Basterds, “Facts can be so misleading, where rumors, true or false, are often revealing.”

The thoughts and opinions shared here are of the author.