Informist, Wednesday, Oct 13, 2021

By Adrija Chatterjee

NEW DELHI – Fuel prices are biting and not surprisingly, the poor are most vulnerable. The government should consider issuing coupons to the poor to help them buy petrol and cooking gas at lower prices if it does not want to cut duties on fuel products, says economist V. Anantha Nageswaran.

"One of the things that the government can do is obviously either lower the indirect levies or taxes associated with the fuel products or provide some sort of a targeted relief for people below a particular threshold level of income--very specific energy purchase coupons which they can redeem for diesel, petrol or even LPG," Nageswaran tells Informist in an interview.

"One of the things that the government can do is obviously either lower the indirect levies or taxes associated with the fuel products or provide some sort of a targeted relief for people below a particular threshold level of income--very specific energy purchase coupons which they can redeem for diesel, petrol or even LPG," says Nageswaran in an interview to Informist.

The comments of Nageswaran, a member of the Prime Minister's Economic Advisory Council, are in his personal capacity.  

Such coupons will lower the targeted sections’ spending on these items, says Nageswaran, who is a distinguished visiting professor at Krea University. "So that is one way the government can provide some sort of relief."

Reduction in taxes on fuel products will not only help lower inflation, it will also help disposable income of people go up, he says.

Retail prices of petrol and diesel have been rising relentlessly on the back of surge in crude oil prices. In the last one year, retail price of petrol in Delhi has risen by a whopping 28.8%. Central and state taxes currently account for over 55% of the retail price of these fuels.

Nageswaran, a former chief investment officer of Julius Baer, believes that the Reserve Bank of India has begun taking tentative steps to normalise liquidity stance by announcing it will not make any more purchases under the government securities acquisition programme.

Still, he would have preferred the RBI to show more optimism and confidence in the Indian economy and signal a slightly more assertive withdrawal of the stance. "They chose to make their withdrawal of stance a little milder," he says.

Nageswaran says tapering of expansionary monetary policy by the US will be temporary and fleeting. "Those countries, especially the US and Europe at large, no longer have the ability to normalise monetary policy," he says. "They have the economies and the financial system addicted to debt and low interest rates. It will be very difficult to wean them out of it."

Below are the edited excerpts of the interview with Nageswaran:

Q. Moody's projected India's growth to average around 6% in the medium term. Do you think India's potential growth has moderated in the last few years?

A. Expressed in the past tense, the statement is right. India's potential growth rate had moderated probably in tavoidhe past. And potential growth rate is a dynamic concept, it is not static. It keeps changing. For example, between 2003 and 2008 when India was growing at 9%, many said India's potential GDP growth was in double digits. So even though you can say the theoretical potential for India is close to 10%, I have a feeling if the capex cycle picks up, India's potential GDP growth could become as high as 7% to 8%. So right now, you could say the potential is 6%, but I think the potential growth now has the potential to increase to 7-8%.

Q. And, when do you see that happening?

A. So as I said if the capex cycle picks up--which can happen in a year or two--the potential GDP growth can indeed go to 7% to 8%. And then if India, and by that I don't just mean the central government, the local governments, state governments, removes all the shackles on economic activity and keep them to minimum and focus on enabling economic activity rather than controlling it or managing it, then the potential can easily go to 10%.

Q. Economists are using various letters of the English alphabet to describe India's recovery from the crisis. How do you see the recovery?

A. I would prefer to stay away from that because this whole notion of K-shaped recovery is something that could be said for India at any point in time. In fact, for many developing countries it is always the case that there is this gap between the centre and the periphery as they put it.

There are people who are below a particular threshold of income who are finding it difficult to participate fully and benefit from an economic recovery. So, it is not just true for this recovery, but it is probably true in general whenever economic activity picks up. That is a development challenge. How do you make sure that economic growth and development diffuse to all parts of the society? So that's why I am saying to characterise this particular recovery as a K-shaped recovery for India alone is misleading. This is a development problem that applies to many developing economies. It is not a new phenomenon.

Q. Some economists have called India's economic recovery from the crisis a profit-led growth where only a few listed companies have gained while wages are falling. Do you agree?

A. Wages are not falling. Wage growth might have slowed down in the wake of the pandemic. But I think there are signs that it is bouncing back. For example, if you look at the information technology sector, there is brisk hiring and also a lot of incentives are being offered by employers to lure employees and also to retain them. That translates into overall compensation growth, not just wage growth. Similarly, in other sectors also I think employers are going out of the way to get employees back into the offices by providing them various incentives that may not be in cash but in kind.

Profits have indeed boomed that is because the Indian corporate sector has deleveraged compared to the last 10 years, their balance sheet is very trimmed. Second, during the pandemic they found a lot of ways of saving on costs. But as recovery proceeds, they will now begin to spend on capacity expansion, on marketing, sales and distribution channels will be reactivated. So, profit growth will slow down but for the right reasons.

Q. How worried should India be on developments associated with Evergrande crisis and a faster-than-expected tapering of asset purchases by western countries?

A. Should India be worried about the developments associated with Evergrande in China and the answer is no. If anything, the developments associated with Evergrande probably makes India more attractive for investors. And not just Evergrande, the developments over the last 12 months in that country have indeed become somewhat tailor made and beneficial for India.

As far as the tapering is concerned, my personal view remains that it is not going to be a major issue as it was in 2013 or anytime in the past when the Federal Reserve threatened to raise interest rates and developing countries got a bout of shiver or fever. No, I don't think that's going to happen. If anything, the tapering itself, if and when it happens, will be very temporary, very fleeting. Those countries, especially the US and Europe at large, no longer have the ability to normalise monetary policy. They have the economies and the financial system addicted to debt and low interest rates. It will be very difficult to wean them out of it. In fact, rates are going to be lower for longer. Tapering, if and when that happens, will be fleeting and temporary. Therefore, we have nothing to worry about the US tapering of bond purchases and even normalising of monetary policy. That is not going to be a threat at all because they will not be able to carry those things out for any meaningful period of time.

Q. Inflationary concern, especially on food and fuel, continues to persist. How best can the government tackle this? The RBI, though, lowered inflation forecast for 2021-22 to 5.3%, it flagged the issue of high duties on fuel.

A. The reduction in indirect taxes, associated with fuel products, will not only help lower inflation, it will also help disposable income to go up in the hands of the public. So, in that sense, it is a good thing. But I do believe the inflation problem in India is relatively a function of one set of products as they say medicines, semi-conductor products, and fuel products now. Not just indirect taxes, but also the actual raw material cost with crude oil, natural gas, LPG are going up. At the same I think food prices are moderating. Also, we have global supply chain rigidities – container shortages, et cetera. So clearly inflation is going to be a problem not just for India but for the entire world. So, I wouldn't be too worried unless and until inflation goes towards a very high single digit or even double digits. I think that is unlikely for India.

Q. Do you think the government can successfully implement its big privatisation plans and asset monetisation programme?

A. Your guess is as good as mine. None of us know how well the government can execute it. But what is clear is the intent and the sincerity and determination to make the privatisation agenda a success is very evident. I am reasonably confident that they will see this through because there is a clear policy consensus and determination behind seeing this through.

Q. You had recently said that considering revenue trends, there is scope for fiscal relaxation, especially to boost disposable income. What policy measures could the government take to achieve this?

A. Fiscal numbers are looking better, partly due to recovery in the economy and partly due to extreme realism of the Budget estimates that were made in February. If the recovery continues to gather momentum, the fiscal numbers in the coming years will benefit from economic activity. One of the things that the government can do is obviously either lower the indirect levies or taxes associated with the fuel products or provide some sort of a targeted relief for people below a particular threshold level of income--very specific energy purchase coupons which they can redeem for diesel, petrol or even LPG. This will have their spending on these items come down. So that is one way the government can provide some sort of relief.

Q. How important is it for the government to ensure a return to fiscal path after addressing the current crisis and within what timeline?

A. The government already has returned to a good fiscal path. They did not overspend like many other countries in spite of which they are still talking about a K-shaped recovery even in the US and the UK. Indian government chose to do targeted fiscal intervention in 2020 and in 2021 as well. They have continued to extend the emergency credit line guarantees. They have provided food relief. So, their interventions have been targeted, modest, and in keeping with India's fiscal abilities. And, given the realism of the Budget projections, India has also managed so far coming out looking good in the first five months of the current fiscal year. So, India is already on the path to mend its fiscal situation.

Indian economic recovery, in my opinion, is better poised to gather steam and momentum. The economic performance was a disappointment in the last 10 years mainly because the financial system was very fragile. Both banks and borrowers were trying to digest the over-indebtedness of the previous decades. That I think is behind us.

And with whatever is happening in the labour codes and the government's own policy initiatives such as ending the retrospective taxation, providing comprehensive reform package for the telecom sector, decriminalising provisions of the Companies Act – many such initiatives are basically beginning to show the investors that India is purposefully focused on using the current crisis as an opportunity to liberalise the economy and put it on a higher growth path.

Once that happens, fiscal situation will continue to improve as it did between 2003 and 2007 largely on the back of higher and better economic activity. That is what I envisage happening in the next five years as well.

Q. Some economists have said that the recently set up bad bank should be wound up after resolving the existing cases because of the moral hazard. Do you agree?

A. I suppose so. I think once its purpose is served it can be wound up. But I think the government hasn't said it is going to be a permanent feature, so I really don't see any need to comment because it is about to be set up and start operations. Given the fact the Insolvency and Bankruptcy Code still exists and rightly to be strengthened, I don't see any rationale also for the bad bank to remain a permanent part of the Indian financial landscape. I really don't think the government also is thinking along any such lines.

Q. With many growth indicators showing signs of improvement, is it time for the RBI to begin normalising its accommodative stance?

A. I can easily speak for both points of view. In my remarks sent to the RBI, I have said yes it is possible to start removing part of the policy accommodation. We should not overextend it well beyond the requirement especially since the RBI itself is beginning to acknowledge in its monthly bulletins that the economy is showing recovery. That said, there are fresh concerns, if you look at the external situation, concerns about stagflation are beginning to mount in the developed world, thanks to natural gas shortages and the higher prices for fuel products. So there is always a huge element of uncertainty.

The festival season has just started and people will be moving and mingling around and so on and so forth and there is natural tendency among the public during the festival season to drop their guard in respect of the virus. So, we do not know whether the third instalment--I wouldn't call it a wave--will be a wave or a ripple. I hope it is a simple ripple because India is well-vaccinated and ICMR study has shown that Indians have antibodies against the virus. But the uncertainty still remains. I hope the third instalment doesn't turn out to be a big one, but RBI may want to wait and see whether the festival season passes without resurgence in infections.

They have said that they won't be making any more purchases under the G-SAP programme, so yes they have begun taking some tentative steps. Personally speaking, I would have probably loved to see them signal a little more optimism and confidence in our economy and, on that basis, signal a slightly more assertive withdrawal of the liquidity and accommodative stance not just now but in the months ahead. They chose to make their withdrawal of stance a little milder. They have specifically said that they will maintain the accommodative stance. Of course, one MPC member appears to have taken an exception to the stance and dissented, so to speak. But, again it is difficult to say they are wrong, and we are right because there is a huge band of uncertainty around the evolution of growth and inflation globally and in India as well.

Q. The RBI is targeting inflation within a 2-6% band instead of the 4% target. According to the glide path, it sees inflation going back to 4% on an average only in 2023-24. Do you think this will affect the credibility of the MPC?

A. Not really. In the first five years of inflation targeting, the rate has always hovered around the upper end of the band. Honestly, there is nothing very scientific about the number 4% even though it has been estimated by a committee that was appointed by former governor Raghuram Rajan. But these are all pretty much rough estimates rather than any scientifically estimated precise numbers. If inflation rate stays within the band of 2-6%, I don't think RBI's credibility will be impaired to any extent.

Q. There were debates that India should target core inflation since MPC actions have very little impact on food and fuel inflation. Do you agree?

A. Well, not just in India, but globally central banks really don't have much control over inflation itself whether it is core or headline. My view on inflation targeting is that central bank becomes responsible for inflation only if you accept the argument that inflation is by and large a monetary phenomenon and I don't buy that. To me, it doesn't matter whether you are talking about headline or core I don't think central bank should be held responsible. The central bank should only be worried about maintaining financial stability and banking system stability and to the extent they can keep credit growth flowing to the productive sectors. Thus, they will anyway be contributing to price stability and economic stability in general. That should be their mandate. I am not speaking of India alone. I am speaking of central banks in general. Therefore, I really do not have any strong opinion about headline or core or whatever other measure of inflation that you are talking about because all of them are not necessarily within the central bank's control. 

Q. Do you think the recent boom in stock market is disconnected from the real economy? Is it a bubble that could burst?

A. It is not disconnected. To the extent that it has become disconnected, it is a profit-led recovery. Profitability growth is very good. Exports are doing well and funds are flowing into the economy because India is showing more purpose and determination with its economic liberalisation and also comparatively other countries are still struggling. For example, China is undertaking many measures that are at best difficult to understand and, at worst, market unfriendly. So given all of this, naturally, investors are pouring money into stocks and as multiples begin to expand then I think the stock market does become decoupled from the real economy. So, right now you can say that it is not entirely unjustified. Markets are right to be optimistic, but we can definitely temper the levels of optimism.

Q. Coming to the bond markets, the government's borrowing programme has been expanding despite efforts to reduce the supply pressure. The gross borrowing for FY23 is seen to be as large as this year's with repayments lined up. Isn't it time to structurally address this?

A. Naturally market borrowings will expand as the economy expands. The government is addressing the overall fiscal situation and India's fiscal situation is on the mend. As we discussed, the fact that large sections of the economy are still not participating in the economic growth and government needs to support them. So, I think the expansion of the market borrowing isn't something that we should be concerned about because it is a natural phenomenon as economic growth expands. There will be requirement of government investment to boost potential growth rate, poorer sections of the society will still be there and spending on infrastructure is very, very important. We are concerned about market borrowing, but we are simultaneously blaming the government for not doing enough capex or public infrastructure. We cannot have views which contradict one another. The government clearly has shown its seriousness about fiscal policy management in two ways – through very moderate and targeted intervention during the pandemic and by using 2021-22 Budget to signal its seriousness about fiscal consolidation.  End

Edited by Akul Nishant Akhoury

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