Reforms set stage for steady 6.5-7% growth: Nageswaran

Prudent forecasts in the Union budget have allowed the government flexibility to handle unexpected events such as increased food and fertilizer subsidies, Nageswaran said. The government has prioritized aid to those at the bottom of the income pyramid during crisis years while providing tax relief to the middle class and businesses in prosperous years, he added.

According to Nageswaran, India’s response to Europe’s carbon border tax plan will depend on specific details and sectoral impact of the new tariff and could entail legal and economic remedies. He noted that private capital formation is increasing, and the economy may grow 6.8-7% this fiscal, with the government prioritizing job creation and education outcomes. Edited excerpts:

What is your assessment of India’s economic performance in recent years and predictions for its growth?

In general, there are two developments that have been missed out in the commentary on India’s economic performance before the pandemic. The economy was slowing, and people attributed it to one-off factors such as demonetization, GST, Real Estate (Regulation and Development) Act (RERA), etc., but the truth is we were going through a plain and simple balance sheet stress in the banking system, which was compounded by the collapse of IL&FS in September-October of 2018. If you look at the global experience of developed or developing countries, when you are going through financial system stress, not only in banking and non-banking balance sheets but also in non-financial corporate balance sheets, they all are undergoing de-leveraging. It is natural that growth would be a casualty. So, this explanation that financial system stress accounts for India’s lower growth and lower capital formation has not been fully brought out.

The commentary still looks for one-off factors and their favourite explanation depending on which side of the aisle you stand for explaining these things. But it is well and truly established, even with global empirical backing, that financial system stress is coming after a huge expansion—this is what happened between 2006 and 2012, and when that reverses and goes into an adjustment phase and balance sheets are being repaired, naturally, there will be less credit demand, less credit supply, and less capital formation and, therefore, lower growth. Therefore, to view that period, which was largely a consequence of the financial system and corporate balance sheet adjustment phase, as an indicator of overall performance is not correct. That is something that is not adequately reflected in the commentary.

And about the potential for growth?

The effect of many of the reforms done in the past six years—from 2016—including GST, IBC and privatization, has been muted because of the financial system repair, followed by covid, followed by the commodity price shock and the synchronized monetary policy tightening. Naturally, people ask about the proof of the pudding in terms of growth rate. The truth is, in economics, we use the qualification ‘everything else remaining constant’ while speaking about the result of an action. But in reality, everything else does not remain constant. Things are constantly changing, right? The government may have rolled out reforms like GST, IBC and RERA, banking sector recapitalization, privatization and various structural reforms. But for them to deliver faster economic growth, it requires an unchanged set of circumstances. But circumstances changed and, suddenly, we had a pandemic, geopolitical tensions and then a commodity price shock. So people do not account adequately for the fact that economic theories or policy actions will have an impact, provided everything else remains constant. When other things change, naturally, their short-term effect overshadows long-term structural impact (of reforms). But once these one-off factors fade, then the structural impact of these reforms will shine through in data. This is exactly what happened between 1998 and 2002. In those years, a lot of reforms were made. You had golden quadrilateral, interest rate deregulation, privatization and telecom reforms, but none of them showed up in the data till 2003 because, simultaneously, we had other negative shocks like sanctions, end of tech boom, two successive droughts and 9/11. A lot of one-off shocks clouded the positive impact of structural reforms happening at that time. But once those one-off shocks faded, the lagged effect of those reforms manifested in higher growth rates. Now we are in a similar situation. Therefore, asking why these reforms are not reflected in data or suggesting these measures are not helping the economy is completely incorrect. With our balance sheets (of lenders and corporations) now in good shape, I believe the economy is resilient and will be able to achieve a steady growth rate of 6.5-7%. We are not fully accounting for the fact that the digital transformation is adding to formalization. We are also not fully accounting for the fact that the capital formation cycle last decade was sluggish due to the financial system stress. Now that is turning for the better. These are the important points that make me optimistic about India’s growth prospects.

What we did exactly between 1998 and 2002 was to lay the foundation for the next six to eight years of growth, except in 2008. Similarly, we have laid the foundation now.

The Centre provided help to the poor during the pandemic, but the message to the middle class is that tax cuts can wait. Is that correct?

It is a question of trade-offs. Given limited resources, the government obviously has to support the most vulnerable. That is what it did. For the middle class, in 2019-20, for example, the government introduced section 87A under the Income Tax Act, which effectively raised the tax exemption limit. It also rationalized tax slabs and gave people different options. I think it is not possible to expect government to do something for all segments of society every year. Obviously, during an extraordinary year, you need to make sure those who do not have other means to support themselves would be supported, and when times are good, we can take a look at other segments.

Did a conservative approach to budgeting help create a buffer to deal with the unexpected extra subsidy spending this year?

Undoubtedly, it has played a very big part. It also improves the credibility and transparency of the numbers. It also gives you wiggle room to respond to unanticipated developments. More than conservatism, I would call it prudence because we were faced with a lot of uncertainties. When the budget was made, there was no inkling of a conflict breaking out in Europe. But nonetheless, in the past two-three years, the government has been focused on making sure the numbers reflect certain prudence. Instead of presenting optimistic numbers and then scampering to make them come good, the government has made a conscious choice to present numbers that can be met comfortably or if unexpected external developments happen, then there is room to meet them.

Will private investments be delayed amid a demand slowdown in some markets?

It is difficult to say, but numbers show private sector capex is improving. For example, an independent estimate by Axis Bank showed that in the first half of the fiscal, ₹3 trillion of investments have happened from the private sector. So that gives you an annual run rate of ₹6 trillion, which is probably 20-30% higher than the run rate last fiscal. It is difficult to tell what would have been the private capex but for the uncertainties induced by global monetary tightening or the conflict in Europe. But in terms of actual numbers, there is an improvement. I think that will continue because if you look at credit growth or import of capital goods, that suggests to me that private capital formation is trending up.

With the pandemic nearly behind us, what are the pain points or challenges we need to address?

Challenges are addressed on an ongoing basis, whether it is employment generation, whether it is ensuring health coverage for the population or making up for the lost years of schooling in the last two years. I would not call them pain points; these are important priorities that need to be addressed in the coming years.

What are the encouraging data points that you see among high-frequency indicators?

You have the purchasing managers’ index (PMI) data which is looking good, and sales trends across various categories of automobiles are looking good. Look at the bank credit growth–it is strong. Also, look at domestic airline passenger traffic and even Railway freight data. All these points to steady and continuous improvement.

Europe is going ahead with a plan to levy a carbon border tax on carbon-intensive products at a time concerns about protectionism are rising. How should India respond?

It is difficult to speculate and hypothesize about what kind of measures may be needed. We have to wait and see the fine print when they happen and see whether these affect the entire economy or specific sectors and what options are available to us. The finance minister did highlight that these are medium-term risks out there which could become important risks to specific sectors, but it will be difficult right now to spell out in greater detail what kind of steps could be taken.

What is your economic growth forecast for FY24?

For FY24, the DEA or the office of the CEA do not make an explicit forecast. In general, our feeling is that given the strength of the balance sheet of the banking and corporate sectors, India, barring major unexpected shocks, should definitely achieve a trend growth rate in the realm of 6% in terms of real GDP, but I expect it to be more than that. I am looking at an average in the next several years of a trend of real growth between 6.5-7% in real terms. This fiscal, it is expected to be 6.8-7% growth. Various forecasts are converging at this range. It looks doable to me.

Are we in a better position today to connect the dots and assess the external uncertainties that may have an impact on the fisc, or do the uncertainties still persist?

It is very difficult to be precise about these things. But qualitatively, I would say uncertainties still linger. The conflict is almost ten months old in Europe, and we do not know when it will subside or whether it may flare up or not. We also do not know what kind of global economic slowdown will happen, how deep and prolonged it will be, etc. All these things are still unknown. In that sense, there are different kinds of uncertainties that may arise, if not the same ones. But they are there.