Running on empty: Why 8-9% growth isn't coming back

For a country that had for decades chugged along at a lowly 3-4 percent GDP growth rate, the frenetic 8-9 percent growth of some recent years made for a giddy experience. While the economy was on an uptrend, largely on the strength of propitious global economic and liquidity conditions and the delayed effect of the reforms of the 1990s and the early 2000s, policymakers began talking up the prospect of India achieving double-digit growth rates.

That starry-eyed dream was never realised - and, according to some economists, may never ever be realised. Already, a perfect storm of bad economic policy at home and turmoil in the global financial markets and economy has seen growth rates fall sharply. Yet, our policymakers continue to delude themselves - and others - with claims that India can continue to grow at 8-10 percent for 20 years.

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Recently in Manila, Finance Minister Pranab Mukherjee claimed, contrary to all available indicators, that India’s economic fundamentals were robust and that it would soon be restored to 8-10 percent growth rate.Likewise, Planning Commission Deputy Chairman Montek Singh Ahluwalia talked up India’s"potential to grow at rates between 8 and 9 percent for the next 20 years".

But, as _Firstpost_ has argued earlier , the “golden age” of 8-9 percent growth isn’t coming back; and in fact, the period of high growth between 2003 and 2011 was an aberration, which came about under very distinctive conditions that are unlikely to be replicated in India’s case.

Between 2003 and 2008, for instance, the world was awash in liquidity, largely owing to the US Federal Reserve’s low interest rate regime. That period of high liquidity lifted up economies and markets everwhere, including in India. And when the 2008 financial crisis struck, and global liquidity flows dried up, the Indian government stepped in with a fiscal stimulus package and welfare policies that provided a steroid booster shot and pumped up economic growth.

But by then, policymakers had gotten so used to five-plus years of high growth without any effort on their part to take forward the reforms of the early 2000s that they began to believe that high economic growth was written into India’s destiny. The spending binge of those years - and the failure to address structural deformities in India’s fiscal management, governance and the labour markets - are adding up to induce a colossal hangover today.

As Arvind Subramanian, a senior fellow at the Peterson Institute for International Economics, notes ( here), the low hanging fruit of the supply-side reforms of the 1990s and early 2000s, which underlay the high-growth phase of the Indian economy, have been fully plucked. “Today, each of the factors of production that contribute towards India’s supply potential is becoming scarce.”

Indicatively, Subramanian points out, skilled labour, which was a source of India’s comparative advantage, is now in short supply because of the bottlenecks in higher education that choke the supply of a skilled workforce ready for the workplace. Alongside this, governance deficit has led to soaring corruption and the choking of infrastructure projects vital to keep the engine of a high-growth economy humming.

As RBI Governor D Subbarao has repeatedly pointed out, it is these supply-side constraints that have kept inflation unsustainably high, despite extraordinarily high interest rates last year, which in turn choked off yet more growth.

Subramanian also points to another reason for the weakening of the “supply capacity” of the Indian economy and the slowdown: rent-seeking in the allocation of national resources - everything from land to coal to oil fields to telecom spectrum - that flowed from an excessively cosy relationship between the goverernment and the private sector.

But as if to overcompensate for that failing, the government is now swinging to the other extreme - of extreme hostility, as manifest in a string of policy pronouncements that have had Indian industry reeling in shock .

“While each of these actions - whether the retroactive amendment on taxes or the new guidelines for the telecommunications sector - may have some extenuating rationale, the overall effect, actual and perceived, is negative,” observes Subramanian.

In 2004, long before it was fashionable to claim that India would leap into a high orbit of growth, Subramanian had co-authored a report that argued that India could grow at 7 percent of more. And although that target was achieved - and breached - well ahead of the timeline he had prophesied, he reckons that that high-growth burst was indeed an aberration.

Today, the Indian economy is out of juice. From here on, 5-6 percent growth may be the new normal, and even that can be sustained only by supply-side reforms that clear the roadblocks. Any talk of 8-10 percent growth for 20 years is just empty rhetoric.