India's Economy: Stamina Is The Name Of The Game

IMF Blog, February 21, 2013

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2013 began with improved financial-market sentiment: the rupee strengthened and the Bombay Stock Exchange index (Sensex) crossed the 20,000 mark for the first time in two years. Industrial production has started picking up.
The IMF assessment: the slowdown to a decade low is mainly due to structural factors, so structural reforms must be central to the solution.

Structural factors emphasized:
- Supply bottlenecks.
- Uncertainty about policies.
- Lengthy delays in investment project approvals and implementation.
Contributing factors (but not the main culprits):
- Subdued global growth.
- Higher real interest rates.
Balance-sheet and macro weaknesses noted:
- One of the highest fiscal deficits and inflation among emerging markets.
- Weakened external position.
- Deterioration in banks’ and corporates’ balance sheets.
Implication: no quick fix; reviving investment requires structural measures plus lower fiscal deficit and inflation and strengthened bank and corporate balance sheets.

Public statements calling for reform:
- Prime Minister (addressing the nation, September 21, 2012): “We need a revival in investor confidence, domestically and globally… the time has come for hard decisions.”
- Finance Minister P. Chidambaram (Economic Editors’ Conference, October 9, 2012): “Without reforms, we risk a sharp and continuing slowdown of the economy which we cannot afford…”
Measures implemented or initiated:
- Restructuring debts and reducing losses of state power distribution companies.
- Facilitating large investment projects with the Cabinet Committee on Investment.
- Liberalizing Foreign Direct Investment.
- Reducing uncertainty in tax policy.
- Finance Minister presented a roadmap to reduce government deficits.
- Containing fuel subsidy spending and rolling out cash transfers to improve spending efficiency over time.

Supply-side bottlenecks persist: negative growth in mining and low electricity output growth indicate ongoing problems.
Essential areas to address:
- Resolve problems in the power sector (fuel linkages, pricing, financial health of distribution companies).
- Progress on inflation reduction and government debt and deficit reduction to boost investment.
Emphasis on implementation: measures have boosted financial markets and confidence, but their impact depends on successful implementation and follow-up.
Analogy: reviving investment in India is “going to be a marathon not a sprint.” Stamina to carry out the reforms is required.

Planning Commission Draft 12th Plan scenarios (contingent on reform progress):
- 8 percent growth with strong and wide-reaching policy implementation.
- 5-5.5 percent growth with policy logjam.
IMF projection:
- Real GDP growth of 6 percent for the 2013-2014 fiscal year.
- Gradually increasing to about 6.5-7 percent over the next 5 years.
Outlook for inflation and the current account:
- Recovery expected to be gradual and inflation and the current account deficit to remain elevated for some time.
- Modest progress expected on these variables alongside gradual reduction of government deficits.

Findings:
- Structural constraints are the main drivers of the slowdown and the persistent weakness in investment.
- Elevated inflation and a sizable current account deficit are partly symptoms of supply bottlenecks.
Policy recommendations:
- Prioritize structural measures that lift obstacles to investment (especially in the power sector).
- Reduce the fiscal deficit and inflation to create conditions for investment revival.
- Strengthen banks’ and corporates’ balance sheets so firms can access financing once investment conditions improve.
- Ensure successful implementation and follow-up of recent reform measures to translate confidence gains into sustained investment and growth.

Laura Papi, February 21, 2013. Rahul Anand is an Economist in the IMF's Asia Pacific Department.