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Economy: The missing growth stimulus

S. D. Naik

WITH continuing demand recession, decelerating industrial growth, persisting investment slowdown, the uncertain export prospects, and above all, a big decline in the overall business confidence, the outlook for the economy this fiscal has turned distinct ly bearish. For an economy already witnessing a slowdown for the past four years, the portents are ominous and the situation calls for urgent policy initiatives to reverse the downtrend.

Unfortunately, despite all the tall talk, the basic stimulus to perk up the sagging business confidence and attract private and foreign investment -- adequate public investment in infrastructure, agriculture and social sectors -- is missing. As a matter of fact, the available evidence suggests that the big squeeze in Government expenditure last year only added to the prevailing recessionary trends, which became more pronounced since the middle of the last fiscal.

The figures now available show that while the 2000-01 Budget had targeted a total expenditure of Rs 3,38,487 crore, the actual expenditure was Rs 3,19,610 crore, or lower by Rs 18,877 crore. In particular, there have been massive shortfalls in expenditur es allocated for rural development projects, affecting rural employment and, consequently, the demand for goods and services. Thus, the Government managed to keep down the fiscal deficit for the year at 5.2 per cent of GDP, despite a hefty shortfall of R s 9,210 crore in tax revenues and the failure to raise the targeted Rs 10,000 crore from PSU disinvestments; the actual realisation from disinvestments was just Rs 2,177 crore. If the expenditure cuts have been deliberate to show a better fiscal manageme nt, it proved counterproductive; it resulted in a further deceleration in industrial growth and huge tax revenue shortfalls.

Also, owing to the industrial slowdown, there was a decline in the non-food credit off-take despite the softening of the interest rates. Not surprisingly, the already low credit-deposit (CD) ratio of the banking industry has dipped further to 51.41 per c ent as on June 16 from 52.21 per cent on May 4 this year. While bankers have attributed the relatively poor appetite for credit to the current industrial slowdown, it also reflects the poor quality of governance, particularly in public sector banks. For there is a huge unsatisfied demand for credit from priority sectors such as the small industries and agriculture.

It may be noted, however, that the current recessionary trend is not a short-term phenomenon but largely the result of the prolonged investment slowdown over the past five years. In particular, the big decline in public investment in recent years has eve ntually led to the decline in private corporate investment as well. Last year, a mid-term review of projects showed a whopping shortfall of 25 per cent in public investment in the Ninth Plan period. What is particularly worrisome is that the shortfall ha s occurred in all the crucial sectors -- agriculture, infrastructure and social sectors. The major reasons cited for the shortfall of public investment was the unprecedented increase in revenue expenditure following a huge rise in the wage bills of the C entral and State Governments and growing interest liabilities. A more worrisome factor is the much bigger shortfalls in investments by States. It is now estimated that investments by States may not exceed 67

per cent of the original target. This is the result of rampant political populism and fiscal profligacy.

Predictably, the massive investment shortfalls in public sector investments has had a dampening impact on the demand for goods and services, particularly those of infrastructure industries such as steel, cement, industrial and machinery. This is also ref lected in the big decline in the growth rate of capital goods and a negative growth in their imports for two years in a row. Corporate investment in manufacturing sector has shown a declining trend for the last five years.

According to a recent Reserve Bank of India study, the aggregate corporate capital investment registered a massive decline of 32.3 per cent in 1999-2000 to Rs 53,583 crore from Rs 79,181 crore in 1998-99. The number of new projects declined by over 54 pe r cent and the investment entailed therein by 31.3 per cent. Investment in expansion and modernisation dropped by 40 per cent and 14.9 per cent respectively during the same period.

Consequently, the outlook for this fiscal appears bleak with the industrial sector displaying signs of a deepening demand recession. This is reflected in the declining sales of consumer durables such as passenger cars, TV sets, washing machines, refrige rators, and so on. The so-called fast moving consumer goods (FMCG) sector is also witnessing a slowdown. The hopes of the construction industry providing the much-needed kickstart to the economy following the incentives announced in the Budget have also been belied. The sector continues to be plagued by recession. While the stock market crash has eroded the wealth of small and big investors alike, the drop in interest rates on small-savings has hit the middle-class salary earners and pensioners hard. Si milarly, the continuing depression in the prices of agricultural commodities has affected rural incomes and demand. Not surprisingly, business confidence index has taken a severe beating and most corporates have been postponing their investment decisions .

The achievement of average annual GDP growth of 7.7 per cent for three years from 1994-95 to 1996-97 had given rise to the hope that spurred by economic liberalisation, the economy may have finally entered a high growth trajectory. But the optimism did n ot last long as the real GDP growth decelerated substantially over the next four years. After witnessing a sharp dip to 5 per cent in 1997-98, it recovered to 6.6 per cent in 1998-99, but again decelerated to 6.4 per cent in 1999-2000 and

further to an estimated 6 per cent in 2000-01. Moreover, even this moderately satisfactory performance since 1998-99 is rather deceptive since a part of this is on account of the huge increase in the emoluments of government servants following the implem entation of the Fifth Pay Commission recommendations and a high growth of services sector. The performance of the real sectors was far from satisfactory.

The Reserve Bank of India's Report on Currency and Finance for 1999-2000 points out that the Indian economy could sustain an annual growth rate of six per cent in the period since 1999-2000 despite a decline in the rate of domestic investment and aggrega te demand because of other

factors. These include a decline in the incremental capital-output ratio (ICOR) from 4.8 in 1992-93 to 3.7 per cent in 1998-99 following improvements in productivity levels. However, it can be argued that the decline in the ICOR might have been more beca use of the increased share of the services sector in GDP where the investment requirement per unit of output is much less than, say, in industry or infrastructure.

Thus, it is clear that the economy is in urgent need of a stimulus to revive the sagging business confidence. At the present juncture, this stimulus can only come from a step up in public investment mainly in agriculture and infrastructure sectors. The b ig question, however, is: From where will the resources come for this? Certainly, the task is not

easy and calls for a strong will and a big improvement in the quality of governance. Concentration on two areas can help augment the investible resources of the Government:

(1) Strengthening of tax administration to recover the huge arrears in tax collections and;

(2) Quick implementation of the ``in-principle'' decisions already taken about the sale of some of the loss-making public sector undertakings and equity dilution in others.

The country can no longer afford the luxury of keeping the perennially sick PSUs alive at the taxpayers' expense and at the cost of economic growth. Only recently, the Comptroller and Auditor General has expressed concern over the Rs 37,970 crore loss ac cumulated by 87 PSUs, including Indian Airlines, Fertilizer Corporation, IISCO and Hindustan Fertilizers. Also, the time has come to rein in the ever-increasing Food and fertilizer subsidies as also the huge subsidies on water, power, second-class railwa y fares and all other services provided by the

Government. True, it is easier said than done, but at least a beginning needs to be made in this direction by striving to arrive at a political consensus and seeking the co-operation of the State governments. Going to the people and educating and involvi ng them in this process could go a long way.Greater efforts and attention in two other areas can further help in improving the investment climate to a significant extent. One is to increase the inflows of foreign direct investment (FDI) which have been s tagnating at around $2-2.5 billion for the past several years against the target of $10 billion fixed way back in 1996. This is largely because

of the huge gap between approvals and actual inflows. Even if the

inflows could be increased to $5-6 billion per annum over the next two years, it will help improve the investment climate.

The other area that can provide a substantial thrust to investment activity relates to commercial bank credit. While the banks are flush with funds, the credit-deposit ratio has dipped to a little over 50 per cent. A recent study by the EPW Research Foun dation stresses the need to prepare banks to deploy at least 60-65 per cent of their incremental deposit resources as commercial credit, distribute them much more equitably, and achieve proper recycling by reasonably prompt recovery. The study adds: ``Th e role of credit becomes all the more important when there has occurred a significant downplaying of the importance of public expenditure. Undoubtedly, public expenditure and bank credit have a virtuous relationship.''

Thus, the thrust of the strategy to provide a stimulus to growth should be a step up in public investment, attracting FDI on a much bigger scale and better deployment of commercial bank credit to revive the sagging business confidence and investment acti vity.