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State of the Indian Economy

Cautious optimism for the future


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The Indian economy is about to experience one of the slowest growth years in nearly a decade. In realization of this, a push for reforms was made in September 2012 bringing a sense of cautious optimism. However, the impact of reforms has remained muted till date. Global economic uncertainties have not helped the case for domestic growth either.

A drop in savings and investment has exacerbated the CAD and fiscal deficit scenario. India had achieved an improvement in domestic savings from 26.5% of GDP in 2001-02 to 36.8% in 2007-08 largely due to public savings and good macro-economic prospects. While a considerable portion of savings was eroded due to fiscal stimulus in meeting the financial crisis, a sustainable plan in putting savings back on track never materialized. Consequently, worsening macroeconomic environment particularly high inflation over the past couple of years and a depreciating rupee put a strain on domestic savings resulting in households hedging against this trend by investing in gold or similar products. 

During this period, corporate savings also fell in light of the wage price spiral and reduced margins due to high borrowing costs and supply side constraints. With the RBI maintaining high rates, corporate borrowing costs escalated and consequently investments waned. In addition, surplus funds in the public system were utilized to fund the government’s high fiscal deficit resulting in a “crowding out” of private borrowings. Subsequently, investible surplus has virtually declined to its lowest in the past few years.

Deep rooted macroeconomic imbalance at this point can be corrected through concrete policy steps to revive growth. Addressing this will be crucial in the forthcoming Budget for 2013-14. The key concern at this point is the fiscal deficit. Sustainable plans need to be considered to further reduce subsidies, widen the tax base, decrease other expenditure and augment revenue through public sector divestments. However, meeting targets may take time. While the RBI focuses to contain inflation, it is also important for it to consider maintaining adequate liquidity levels by reducing the statutory liquidity ratio and repo rates while controlling the cash reserve ratio. The twin action of fiscal and monetary policies is therefore expected to help raise savings and promote investments in the economy. With increasing investments, growth is expected to follow suit.

The efforts of the Finance Minister to initiative strong reforms are laudable. Though the announcements of reforms have helped in lifting investor sentiments, committed implementation of these reforms as well as introduction of further reforms will be required to maintain confidence and show a path to recovery. Budget 2013-14 presents a good opportunity for the Government to start the new fiscal year on a positive note as the stakes slowly rise.