RBI's tough-speak PDF Print E-mail
Thursday, 12 December 2013 00:00
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Politics can’t hold economics to ransom

RBI Governor Raghuram Rajan has done well to point to the need for Opposition parties to stop playing political football and instead clear pending Bills – those on GST, the Direct Taxes Code and insurance, for instance. While one argument is that they can easily be passed by the next government, as Rajan said, a stable post-election government can’t be taken for granted. Indeed, even if the government is stable, as UPA-2 is, it could also get held hostage like the UPA is today. This is also important in that the effect of any legislation—to hike FDI levels in insurance, for instance—is typically between 3-5 years, so the sooner the enabling legislation is put in place, the better. It has been 15 months since FDI in multi-brand retail was allowed, but not one dollar of investment has come in as yet. As in the case of VAT, it will be some years after the GST legislation is passed that tax revenues start showing buoyancy. Similarly, while opening up of the coal sector is not yet on the priority list of either the government or the Opposition, this is perhaps the single-biggest impediment to power sector growth and is mostly responsible for high prices of power in India. The larger point is, the health of the economy and the corporate/banking sector being what it is, it will take a few years to get the growth momentum back—any delay in fixing legislation will push this period back even further.

It is just as well that finance minister P Chidambaram reiterated his resolve to keep the fiscal deficit under control—he quoted Rajan as saying the 2008 stimulus, both monetary and fiscal, was excessive and so created an excess demand situation. It is not strictly true that high fiscal deficits or loose monetary policies always lead to high inflation—this is amply demonstrated by negligible global inflation levels right now—but fiscal control is important since credit rating agencies will downgrade India in its absence. When, as now, an economy is operating below optimal, more government spending helps reflate it and doesn’t squeeze out private spending either; but credit rating agencies accept higher deficits, as they are in the US and Europe, only if they are convinced these will be controlled after growth recovers—there is no evidence of such contra-cyclical fiscal spending in India. It is also how the deficit target will be met that is critical. If this is done by cutting capital expenditure, inflation will rise since productive capacity won’t get created to match increased demand. Equally, when legislation like FSA and MGNREGA are passed, this just builds up the pressure to hike wages out of sync with productivity and triggers an all-round wage spiral which feeds inflation. And it has to be a complete mockery of fiscal control when, while technically controlling subsidies to budgeted levels, around R1.2 lakh crore—that’s more than 1% of GDP—of subsidy payments are simply deferred to FY15. That’s the other point Rajan made yesterday.


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