As pointed out by many analysts, the new GDP data series — which gave India the moniker of ‘world’s fastest economy’ — doesn’t correlate well with any real or financial indicators, whether exports, investment, credit growth, corporate profits, cement and auto sales, rural wages, freight traffic or tourist arrivals. It also didn’t match the grim picture coming from unemployment statistics.
But, now, former chief economic adviser Arvind Subramanian has bowled a ‘doosra’ by releasing a paper, ‘India’s GDP Mis-estimation: Likelihood, Magnitudes, Mechanisms and Implications’, which says that the GDP growth rate from 2011-12 to 2016-17 is not 7%, as official data show, but a disastrous 4.5% — that is, 2.5% lower. The Prime Minister’s Economic Advisory Council (PMEAC) has rebutted Subramanian’s assertions and questioned his methodology, as have others.
The Central Statistics Office (CSO) is silent on the issue and the PMEAC paper, while raising doubts about Subramanian’s paper, doesn’t give an adequate explanation of the dissonance between many leading and coincident indicators and GDP.
CSO needs to make available all the assumptions and judgements it has used in its nominal GDP calculations and GDP deflator estimates — essentially, lay bare its spreadsheets — so that independent researchers can fully understand and test its calculations. Until that is done, doubts about India’s GDP numbers will continue.
The problem with Subramanian’s paper is that his methodology isn’t robust enough to say exactly by how much India’s GDP growth is overestimated. He uses only four variables, and his empirical model suffers from the ‘missing variables’ problem. Among others, one crucial missing variable is taxes. He also attributes much of the overestimation to manufacturing. But with manufacturing only 25% of total GDP, it surely can’t lead to such a huge overestimation in overall GDP growth rate. The calculation of the service sector GDP deflator could probably provide a better explanation.
Be that as it may, without CSO spreadsheets available and despite PMEAC’s defence, there remains the sense that our GDP growth rates are overestimated, though probably not as much as Subramanian claims. Even before his paper came out, most market players were using real indicators to make their investment and hiring decisions.
And with strong indications that the economy is in trouble — and a consumption-led recovery post-demonetisation having petered out — the focus had, in any case, shifted to growth and investment. India is no longer in a ‘sweet spot’.
The hype of the ‘world’s fastest economy’ has been replaced by a more sombre and realistic assessment that a coordinated focus on growth is needed.
Prime Minister Narendra Modi has set an ambitious GDP target of $5 trillion by 2024. Whether we achieve it or not, it’s a good target to give an impetus to a GDP growth target of 8-9%. It will also require reaching exports of $1 trillion and manufactures of around $1.5 trillion. This means a fresh set of reforms in labour, land and financial markets as well as an exchange rate policy that doesn’t favour importers over exporters.
Many pessimists believe India has missed the bus on manufacture based export-led growth, as tariff wars are breaking out. But India is such a small player in most of its major export markets that its upside remains huge if it makes determined efforts. China, Vietnam and other east Asian economies used export targets to drive domestic reforms. So can we.
The financial sector needs urgent attention. The new RBI governor has brought the repo rate down by 75 basis points. But the real repo rate remains at 275 basis points, some 150 basis points higher than it needs to be. The cost of capital is also very high because banking margins in the financial sector have been the highest in the world — over 500 basis points.
Delays in dealing with banking sector troubles have now led to the problems in non-banking financial companies (NBFCs). With the banking sector in trouble, markets shifted to NBFCs, which saw explosive credit growth of almost 40%. But, as is to be expected with such high, largely unregulated growth, they have come to a crashing halt.
Insolvency and Bankruptcy Code (IBC)-led resolution of the banking sector is too slow. For India’s Rs 200 trillion economy, a delay in resolving NPAs that reduces growth by 1%, costs Rs 2 lakh crore every year. In five years, that adds up to Rs 10 lakh crore, roughly the size of India’s revealed NPAs in the banking sector. IBC is a good reform, but not designed to deal with a problem of this size. We need a bad bank to clear the banking sector, reform it and let the economy move forward. Excess capital from RBI could be used to recapitalise banks.
Hopefully, the data imbroglio encourages reforms to get India back to what former economic adviser Vijay Kelkar had described as the ‘golden turnpike of growth’. On GDP data, we are in a Duckworth-Lewis-type situation. Nobody understands it, but has to grudgingly accept it — or perhaps ignore it, like most businesses are doing — and use other real indicators.