Will India have to reconcile itself to lower growth?

Less than a week to go before the Reserve Bank of India (RBI) sits down to take stock of the economy and interest rates, and there’s already a surfeit of more bad news. The latest Index of Industrial Production (IIP) number of 0.1 percent for April just adds to the overall gloom, coming as it does after the renewed warning by global ratings firm Standard & Poor’s (S&P) that India could be the first BRIC ‘angel’ to see a downgrade.

The fourth-quarter GDP growth number of 5.3 percent, and the March IIP shocker of -3.2 percent are figures that have now prompted analysts and economy watchers to say that monetary policy alone can hardly lead to a turnaround. While there is the usual clamour from sections of the industry that the RBI needs to further lower interest rates to bring back the growth momentum, several others also agree that with inflation remaining sticky, it is going to be tough for the central bank to do much more on the interest rates front. The May inflation number is expected on Thursday, and that will further shape the view RBI will take next week (18 June).

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But the bigger question is, will India now have to reconcile to a period of low growth? With the eurozone in turmoil, China slowing down and the US weighing a third round of quantitative easing (Q3) carefully, the global signals are depressing. But more importantly, there is a growing consensus that the continuing policy paralysis - a phrase which has now become a routine part of the economic lexicon in India - is one of the major reasons why India is in the position it finds itself in.

A hard-hitting analysis in The Economist, titled “Farewell to Incredible India”, says pretty much the same thing: that bereft of leaders, India is ‘destined’ for a period of lower growth, though the human cost of that will be very high. Lower growth will mean lower employment, and that may even lead to growing public anger. The list of reasons the analysis provides for the mess India is in is scary: excessive government borrowing, crowding out of private investment, corruption, confusion, red tape, the inability to make a ballooning bureaucracy more efficient, an increasingly fragmented polity..the list goes on.

And clearly, these aren’t problems which a central bank - no matter how efficient it is - will be able to solve with monetary tools. Structural reforms have vanished, foreign investment regulations are not being eased in critical sectors like retail and insurance and supply-side constraints causing stickiness in inflation remain. The government is unable to take bold decisions because of hostile allies and a belligerent opposition. Clearly, these aren’t problems RBI governor Duvvuri Subbarao can do much about.

While China slashed its interest rate aggressively last week to spur growth and cut the cost of capital for businesses, the European Central Bank has held firm. Ben Bernanke, the US Federal Reserve chairman, has also not committed to a quantitative easing. Subbarao’s move - or the lack of it - will come against this background.

However, even as most agree that the RBI’s hands - to a large extent - are tied this time round and it is New Delhi which will have to finally shake itself out of its stupor, (The Economist, in fact, argues that while a full-blown crisis needn’t be wished for, a ‘short, sharp knock’ may actually be good for India and shake policymakers up), there is also hope that RBI will send out another signal and cut rates by around 25 basis points. (100 basis points = 1 percentage point.)

A repo rate and CRR cut?

Says Yes Bank chairman and CEO Rana Kapoor: “We are seriously impacted on growth and you can’t make monetary policy sweat any further. Part fiscal correction will happen only through robust growth. There’s need to really inject growth back into the system before we get into a vicious cycle. So at least a 25 basis point cut in rates and at least a quarter percent on CRR (cash reserve ratio). More than interest rates, we need liquidity and stability in the market.”

Kapoor says a 25 basis point repo rate cut will be a signal, ‘on top of a big signal which was given last April’ when RBI cut the repo rate by 50 basis points. “But we need a longer term signal on liquidity, hence a CRR cut is called for. Please remember, a lot of liquidity gets soaked whenever currency sterilisation happens or outflows exceed inflows.”

Arguing that none of India’s inflation components are local anymore, Kapoor says what will help is converging communication. “In a highly benevolent democracy that may not happen. But signals to the system need to be consistent and stable and at all points, should ensure that banking, business and economic confidence is sound. Any country can handle a challenge if there’s a high degree of confidence. It seems easy to say this but it needs to be done.”

Going by the sporadic bursts of activity in New Delhi and the confusing signals sent out by two RBI deputy governors last week on rates, that seems some time away. For now, with sticky inflation, a government unable to take bold steps, and falling growth and investment, all signs point to the fact that India will have to live with lower growth for some time now. Even 7 percent is now an ambitious target. Turnaround, did someone say?