Issues related to Economic growth

[op-ed snap] The policy way out


From UPSC perspective, the following things are important :

Prelims level : Nothing much

Mains level : Structural slowdown; Regulatory supervision


India is in the middle of a sharp growth slowdown. The debate surrounding the slowdown is whether it is a cyclical downturn or a structural correction. Diagnosing the problem is key for devising policy responses. 


  • Cyclical slowdowns can be dealt with using temporary fiscal and monetary stimulus. 
  • Structural problems require long-run policy responses.

The slowdown is structuralOil imports

  • Most of the growth between 2014 and 2017 was sparked by a sharp increase in government spending
  • Given India’s oil imports, the decline in the world price of oil by almost $50 a barrel between 2014 and 2016 represented a windfall revenue gain of 3% of GDP. 
  • Since the fiscal deficit barely moved, the government effectively used the windfall to finance various government schemes
  • Now that oil prices have reverted towards their previous levels, a stable fiscal deficit demanded a reduction in government expenditures.
  • If there is no oil windfall, Indian growth over this period would have been 2-3% lower annually. The economic slowdown has been ongoing for almost four years now. 
  • Cyclical downturns last a few quarters, maybe a year. Negative growth pressures for four years indicate structural problems.

Structural slowdown – investment demand

  • Throughout the period 2016-2018, there was a criticism of the Monetary Policy Committee’s refusal to cut rates. 
  • It was argued that high real interest rates, along with the restrictions by RBI on banks’ lending to deal with the NPA problem, were jointly responsible for low investment demand. 
  • Since the beginning of 2019, both the monetary policy stance, as well as PCA norms, have been relaxed by the RBI
  • However, investment demand has barely moved in response.

Dealing with structural slowdown – 

  • Dealing with structural problems doesn’t require fiscal spending. It involves non-pecuniary costs. 
  • The government has to expend some of its considerable political capital in order to usher in long-term labor and land reforms
  • For these, the state governments have to be roped in to get these reforms going.

Corporate tax reduction

  • The move to lower the corporate tax rate is a good one. It is like a capital market structural reform as long as it is not used as a temporary fiscal measure. 
  • The government needs to signal unambiguously to markets that this is a permanent reduction of the base rate.

Financial Infrastructure

  • The public sector banking network accounts for 75% of India’s banking assets. 
  • Public sector banks introduce two complications to the financial system.
    • They allow for the capture of the credit allocation system by non-market forces. 
    • Regulatory capture – Since the regulator of banks is the RBI which is itself owned by the government, this amounts to the regulator regulating the entity that it itself is reporting to. 
  • The government can induce regulatory changes by just changing the personnel it appoints to the upper management of the RBI or to its board.
  • India needs to urgently begin reducing the importance of public sector banks in the economy. 
  • This can be done either through privatisation of existing public sector banks or through the granting of banking licenses to private operators
  • On-tap banking licenses have attracted little interest so far suggests that the privatisation of public sector banks needs to be prioritised.

Sovereign bonds

  • The idea needs to be pursued for multiple reasons.
  • Sovereign bonds would force government debt to be priced in a more competitive setting. Currently, it is priced in a sheltered domestic bond market.
  • Issuing sovereign bonds will force greater clarity and transparency of macroeconomic data since international creditors will demand that.
  • Things like failure to achieve policy targets or reticence in releasing data will attract rapid punishment by markets. This will provide greater discipline for policymaking.

Way ahead

  • The government should revisit the appointments process to key technical and regulatory bodies. 
  • Functions like monetary policy, banking supervision, data collection and dissemination, the audit of government financial accounts need to be independent of government direction.
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