India - Time to lose virginity


By

Anshul Arora
PGP Finance (2007-09)
Alliance Business School
Bangalore
 


India, for decades, has been identified as a country with huge fiscal deficit which signifies that we (Government) tend to spend more than we can supply. We become very happy when we see that our economy is following the ill conceived notion that it's a good omen for a developing country to have deficit than surplus. We Indians, because of our huge unproductive population, tend to spend more than we can earn. If we continue to be such people, I am afraid whether we can become a developed country ever.

Reason is simple. Expenditure being greater than income means our demand being more than supply, causing inflation. This serpent of inflation stings the people at the bottom of pyramid the most and thus hissing and jibing at our dream of inclusive and non-inflationary growth. Mind it "inclusive and non- inflationary.'

We take great pride in the fact that Indian economy is driven by its domestic demand. I agree. But it's partially also because that we are still not good enough to channelized our product in international market. Take the example of China. Though it sitting on the 'heap of explosion' of US $ 1.8 Trillions of Forex reserves (as on 29th Sep, 08) with the match box of" Full Capital account convertibility", one can still bet on the growth of China because of its high productivity. We boast of beating China on the basis of IT Industry. Mind it Chinese IT (Hardware & Software is more than three times that of India.

I am not a pessimistic and I also truly believe that our growth model is much holistic and sustainable than that of China and wish a day will come when India will again drive the engine of world trade. But that can happen if Indian brainy economists don't let themselves paralyzed by the malady of politics.

REER (Real Effective Exchange Rate) of India has continuously been suppressed to appreciate. What are the various methods which govt. has sought (or it can sought) over the past decade to carry with this honeymoon?

Kill growth: Slowing down the productivity growth and thus avoiding the rise in the prices of services (non- tradable goods) and avoiding inflation. It leads to sacrificing growth for inflation. Example- raising interest rates for corporate lending

Restraining Capital Flows: Stringent norms and rules for capital mobility and thus keeping the nominal exchange rate low. Sacrificing growth but does make sense.

Sterilization: Buying dollar and selling rupee to keep the rupee's supply fictitiously high. It can work up to a limit. But excess of it will once again lead to excess domestic liquidity causing inflation which our government can never allow to happen. Mind it government and not the political parties. Issuing MSB (Market stabilization bonds) is more or less the same concept.

Reducing the interest rates: Making Indian market less attractive for foreign investors but boosting the inflation which again is seen as a problem.

First two don't make any sense to a rational person and second two to government. Question baffling my mind is 'is the appreciating REER really a problem or hindrance in the path of India to become a developed country.' Let's assume it is. Then what shall we do? We shouldn't let it appreciate. How? Either by letting our currency depreciate or by reducing inflation. Both of them are contrasting to each other and striking a balance means accepting that India is contented with its pervasive poverty. Moreover, let's recognize that in the coming 20-30 years, appreciation of Rupee against the currencies of developed country is inevitable. Nothing can be farther away from realty than the illusive hope that we can have a lower inflation than that of developed economies like USA, even in long term. Hence, REER has to appreciate and better we stop carping about it. However, we can always manage the manner and timing of REER appreciation, to certain extent. Then what is the way to escape? As per RBI, it is ensuring a balance between inflation and growth where inflation side should win.

I think central bank of a country has two tasks to do. Let take the secondary one- Managing the inter-twisted Trio of monetary policy, exchange rate and capital mobility. Now taking this trio as a tool, deciding is it the growth or inflation which should dominate. There should be no space for a beguiling mission such as 'striking balance' RBI always gives preference to inflation over growth with the logic that 'Aam Admi' should not suffer. My question is 'To what extent it is right to keep the prices low while snatching the job opportunities of up- coming 'Aam Admi, I mean youth? Or is it right in the first place itself? I think the answer should be 'No.'

We think that our competitive advantage is low cost labor that can contentedly rather merrily continue to clean the backyards of MNCs (Back Office job). My answer is 'No, our competitive advantage is huge young labor and to become a developed country we need to make this labor a skilled one and not a low cost one. If we keep worrying about inflation, then where will be the job opportunities for 550 million people below the age of 25 (WEF- India Risk)?

Do we want to be a developing country or become a developed one? The only way, India can continue its unprecedented growth story is to create continuous job opportunity for youth and if it comes at the cost of inflation, it's not a bad deal. The moment Indian population puts up the habit of living with the inflation rate of 6-9% or rather government makes them understand and live with it, India will make a paradigm shift from developing country to developed one.

God is great and so are we!!! All the bestů
 


Anshul Arora
PGP Finance (2007-09)
Alliance Business School
Bangalore
 

Source: E-mail September 30, 2008

 

        

 

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