october 26, 2013

Economic & Political Weekly EPW october 26, 2013 vol xlviII no 43
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Is Stagation on the Cards?
Green shoots of revival notwithstanding, the Indian economy is more vulnerable than before.
T
he sharp volatility and decline in the value of the rupee,
witnessed after 21 May, seems to have ceased. Indeed,
the rupee has even recovered somewhat, and both North
Block and Mint Street are patting themselves on the back. But
frankly, though an unintended consequence, the credit, if at all
anyone has to be accredited for sinking and then rescuing
the rupee, would go to the chair of the Federal Reserve (the
Fed), Ben Bernanke. The Indian economy, nevertheless, is on
the skids, the discovery of green shoots of revival by North
Block and Mint Street notwithstanding.
In the wake of the nancial crisis ve years ago, the Feds
easy monetary policy at rst brought down short-term interest
rates, but even as these rates remained close to zero, the eco-
nomy showed little or no response. So quantitative easing (QE)
was resorted to a programme to reduce long-term interest rates
by purchasing massive amounts of long-term US government
bonds. This raised the price of the bonds and thereby sought to
drive down long-term interest rates. The banks were thus girded
on to sell the government bonds in their kitty to the Fed at the
higher prices on offer and take the money, but the question
remained as to what they would do with the additional money.
Would they sufciently buy other long-term debt instru-
ments, those with a higher default risk, like corporate bonds,
and in turn drive up the price of those instruments and thereby
lower long-term interest rates? The fact remains, however, that
corporate bonds (and consumer loans) are not like relatively
safe government bonds they are much riskier propositions,
more so in these gloomy times. The associated interest rates
not only did not come down as much, but lending standards
were also tightened. Besides, with expectations of future sales
and prots in the real economy remaining very negative, rms
were, in fact, cutting their wage and salary bills, and invest-
ment spending.
Thus the QE programme failed to support productive invest-
ment and it is at times like these that a large scal stimulus
becomes a dire necessity. But the US federal government, which
has just reopened, after a 16-day shutdown, with a tempo-
rary lifting of its debt ceiling after a deal in Congress with the
Tea Party faction of Republicans, may no longer be willing
and able to provide such an economic impetus, for the entire
political establishment seems to have now shifted further to the
right. With the International Monetary Fund, in its latest World
Economic Outlook (WEO) report, released earlier this month,
forecasting US growth at 1.9% and eurozone growth negative at
()0.4%, both in 2013, the economic situation is dismal.
Frankly, the funds made available to Wall Street at very low
interest rates as a result of the QE programme are a gift from
the Fed to further speculate in the nancial markets. Indeed,
nancial speculators have used these cheap funds from the US
to invest in the emerging markets, including the Indian, to
reap high rates of return. And, Ben Bernanke assured them on
18 September that the party will go on, this when he said that
the proposed tapering of QE will not ensue as yet.
The WEO report puts global growth in 2013 at its lowest in
the last four years. And, in a report last month, the United
Nations Conference on Trade and Development emphasised
that ever since 2008, world trade has grown slightly slower
than world GDP growth. All this notwithstanding, here in
India, green shoots of revival are being discovered in the
monthly data related to the merchandise exports of the second
quarter. However, a signicant rise in Indias current account
decit (CAD) to 4.9% of GDP (from 4% in the rst quarter of
2012-13), when seen in conjunction with an impending rise in
US interest rates when the Fed begins tapering its QE, points
to a declining secular trend in the value of the rupee. And, with
the passing on of the rise in the rupee price of petroleum as a
result of such depreciation, cost-push ination is bound to
continue. Now, in such a gloomy situation, with mainstream
economic theory attributing the high CAD to the high scal
decit, and this logic justifying the imposition of scal austerity,
a near-perfectly conducive setting for stagation is being
created. The WEO report in fact expects Indias GDP growth rate
in 2013-14 to decelerate to 4.2% (from 5.0% in 2012-13), with
the CAD for the full year at 4.4% (compared to 4.8% in 2012-13)
and annual average consumer price ination at 10.9% (com-
pared to 10.4% in 2012-13).
So what are North Block and Mint Street doing to prevent the
economy going from bad to worse? The Union Finance Minister
P Chidambaram is back from one of his umpteen jaunts wooing
foreign investors, this time with an urgency not seen before, for
the high CAD has to be nanced in the short term. The Union
Finance Secretary Arvind Mayaram keeps echoing his boss,
EDITORIALS
october 26, 2013 vol xlviII no 43 EPW Economic & Political Weekly
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reassuring the nancial markets (read, the credit rating
agencies) that we will contain the scal decit within 4.8% of
GDP, as budgeted, never failing to add that we will contain the
CAD at $ 70 billion (3.7% of GDP). And, the Reserve Bank gover-
nor Raghuram Rajan seems bent on targeting low ination, this
with the use of a single instrument, the repo rate. And, he is
keen that more foreign banks enter India through the subsidiary
route and takeover smaller Indian banks. (He chose Washington
DC as the venue to reveal such preferences.) Such a dose of
medicinal compounds is guaranteed to send the patient from
the general ward to the intensive care unit. The economy, of
course, desperately needs an alternative course to all of this.