Our broken growth model is in acute need of some repair work

Source: Live Mint

Relevance: Battling the slowdown in Indian economy

Synopsis: Solving India’s chicken-and-egg problem of income and investment will take government action.

Background

• India was expected to grow in double digits in 2021-22.
• However, most double-digit economic growth forecasts for the current financial year have been cut to single digits.
• For instance, the International Monetary Fund recently cut its growth forecast for India from 12.5% to 9.5%.
• India’s economic growth model of recent years is one of the main reasons hampering India’s rapid Economic growth.

Factors behind economic growth

The two things that drove economic growth during 2001-2011 are

1. Investment: High investment to gross domestic product (GDP) ratio
2. Increase in Exports 

Trends & Problems 

Despite high investment and increase in exports, Indian economy came under the following problems

• Inflation hit double digits. Projects did not take off on time, leading to huge bank loan defaults.
• Also, some business promoters simply siphoned off money borrowed from banks. This led to huge bad loans for banks that peaked at ₹10.36 trillion, as of 31 March 2018.
• More importantly, this pushed banks away from funding industrial projects.
• Also, many corporates were not in a position to borrow, having already gone on a borrowing binge.
• In the process, India’s investment to GDP ratio fell. In 2020-21, it was at an almost two-decade low of 27.1%.
• Meanwhile, Indian exports fell to 18.7% of GDP in 2020-21. This fall has primarily been driven by a massive fall in outward shipments of goods.
• Nevertheless, private consumption, came to the rescue. India continued to grow in double digits post 2011-12 and up until 2016-17.
• The trend led to consumption’s share in our economy increasing from around 56% in 2011-12 to 60% in 2019-20.
• After 2016-17, consumption growth declined.

Why private consumption declined?

• Private consumption was funded through savings as well as increased borrowings. However, due to increasing NPA’s and low per capita gross national disposable income, private consumption started declining.

In this scenario, if income growth has to pick up, investment needs to go up in order to create jobs and spur economic activity.

Why growth still not picking up?

As stated above, investment needs to go up, but businesses are not in a position to borrow.

• Even if they are, the capacity utilization in many sectors continues to be low, which means that producers have no need to expand unless consumer demand rises to justify it.

Way forward

• If India needs to come out of this situation, both central and state governments need to spend more.
• This could involve putting more money directly in the hands of citizens in the form of tax cuts to spending more money on capital-intensive infrastructure projects.
• Cutting excise duty on petrol and diesel are other options.

However, the concern towards increasing public spending is that this will involve governments having to borrow more. And, the liabilities of the central and state governments have already touched around 91.7% of GDP, as of March 2021.

Terms to know:

• International Monetary Fund
• Basic Economy Terms