Context
- The new year begins on a slightly more optimistic note for India. Global crude and food prices are down, the rupee has stabilised at 82-83 to the dollar after dropping from 74.5 levels at the start of 2022, even as official foreign exchange reserves have recovered. However, there are challenges to the economic growth of India which needs an immediate attention and action.
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The current scenario and the optimism around Indian economy
- Global crude and food prices: Global crude and food prices are roughly 38 per cent and 15 per cent down respectively from their highs in March, following Russia’s invasion of Ukraine.
- Stabilised rupee: The rupee has stabilised at 82-83 to the dollar after dropping from 74.5 levels at the start of 2022
- FOREX recovered: even as official foreign exchange reserves, which had plunged to $524.5 billion on October 21 from a year-ago peak of $642 billion, have since recovered to $562.8 billion.
- Environmental conditions are good for Rabi crops: With the prospects for the upcoming rabi crop looking good, as there is favourable soil moisture conditions, timely onset of winter and improved fertiliser availability on the back of declining international prices one can expect consumer inflation to ease further.
What is inflation?
- Inflation is an increase in the level of prices of the goods and services that households buy. It is measured as the rate of change of those prices. Typically, prices rise over time, but prices can also fall (a situation called deflation).
- Challenge is more on growth than on Inflation: The challenge for India this year is likely to be more on the growth than on the inflation front.
- It seems, Chinese’s authoritarian policies making India a favourable investment destination: On paper, the world’s disillusionment with China (more specifically, the authoritarian policies of Xi Jinping, both at home and beyond) and its diminishing economic prospects, worsened by a looming demographic crisis, should be making India every investor’s favourite destination.
- On paper government efforts are honest to attract investment: The present government’s focus on improving the country’s physical as well as digital infrastructure plus schemes such as production-linked incentive to attract investments in specific sectors, from solar photovoltaic modules and drones to specialty steels ought to have given added impetus to this process.
- But on the ground, neither domestic nor foreign companies are really investing: The biggest drag on investment during the last decade was over-leveraged corporates and bad loans-saddled banks.
- Deepening global slowdown is a major challenge to the economic growth: That twin balance sheet problem has more or less resolved itself. Today’s problem has mainly to do with strained government and household balance sheets. That, coupled with a deepening global slowdown constricting export demand, could have a bearing on India’s economic growth.
What is Current Account Deficit (CAD)?
- A current account is a key component of balance of payments, which is the account of transactions or exchanges made between entities in a country and the rest of the world.
- This includes a nation’s net trade in products and services, its net earnings on cross border investments including interest and dividends, and its net transfer payments such as remittances and foreign aid.
- A CAD arises when the value of goods and services imported exceeds the value of exports, while the trade balance refers to the net balance of export and import of goods or merchandise trade.
What should the government do?
- Refrain from fiscal stimulus and maintain macroeconomic stability: It should certainly refrain from any fiscal stimulus to kick-start investment or drive growth. Far from stimulus, what the country needs is macroeconomic stability and policy certainty.
- Managing current account deficit: The current fiscal deficit and public debt levels are far too high to allow any new populist schemes in the name of putting money in people’s hands or sharp tax cuts to supposedly revive investor sentiment. Large government deficits will invariably spill over into current account deficits. The latter number, at 4.4 per cent of GDP in July-September, was the highest for any quarter since October-December 2012 and the prelude to the last so-called taper tantrum-induced balance of payments crisis.
- Must prioritize fiscal consolidation: The coming budget must prioritize fiscal consolidation. This will enable the RBI to also pause interest rate hikes and further monetary tightening, which is probably not the best thing for an economy already facing multiple growth headwinds.
Conclusion
- India’s challenge has shifted from inflation management to facilitating growth in 2023. Policy stability and credibility should be the mantra that will ultimately work for India.
Mains question
Q. It is said that the new year 2023 is starting on a slightly more optimistic note for the Indian economy. In this background, discuss the challenges facing India’s economy and what the government should do?
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