Inherited Problems for Modi's Economy Czars

After the Tsunami of celebrations, the time to address immediate economic problems for the yet-to-be sworn in Narendra Modi government, has probably started even before it takes office.
Top mandarins say the BJP will inherit not only the iconic red sandstone buildings on Raisina Hill, which stand at the heart of Delhi’s power corridors, but also the myriad economic `time-bombs’ which the Manmohan Singh Government will be leaving behind.


Gas Wars
Possibly the first challenging decision which the new BJP-led government will have to tackle will be  the gas pricing conundrum, which the Manmohan Singh regime will be leaving. Earlier this year, gas prices were sought to be hiked to over $ 8.40 a mmBtu, double the current rate.
The move which was stalled by the Election Commission as part of its code of conduct, will if accepted by the new Government, mean an immediate increases in the price of electricity, fertiliser, gas used by public transport, and plastics with its longer term knock-on effect on the price of almost every good and service in the country. 

For a government which would be trying to consolidate its recent massive mandate, any sudden price rises could translate into quick dampening of support and a reversal of voting trends in key state elections which would be coming up in the next two years.
However, not allowing any increase could damped investor sentiments in the oil and gas sector, which hasn’t seen any major discoveries in  recent past. Besides, the Reliance Industries Ltd, which was instrumental in seeking the rise in the first place, has sought arbitration proceedings on stalling of the price hike. The Government would have a legal fight on its hands which again would not exactly help build investor confidence, especially foreign investor confidence, something which the BJP-led government is believed keen on.
A possible way out would be to go in for staggered increase in the price of natural gas which could help keep prices under the lid and yet at the same time solve the possible legal tangle with the country’s largest industrial house, which many say is also close to both the new and former ruling parties.

Battle Over Money

The Yaksha & Yakshi Sculptures Guarding RBI
 

If India Inc., which so lustily cheered Narendra Modi’s victory on Friday, has any one demand they want fulfilled as of yesterday, it is a cut in interest rates. Their bitter complaint has been that high interest rates have locked out investment in new factories and projects and their one point demand in repeated meetings with finance ministry mandarins has been steps to reduce interest rates, to help drive back growth. India’s GDP grew by just 4.7 per cent last fiscal after falling to a decade low growth rate of 4.5 per cent in the year before.
However, with inflation still raging high, the country’s central banker, Raghuram Rajan favours continuing using interest rates to combat price rise. The country’s consumer-price inflation quickened in March for the first time in four months to 8.31 per cent from a year earlier, forcing Rajan to leave untouched key policy rates unchanged in the last review on  April 1, this year.
Speculation is already rife that this could lead to a battle royal between Rajan and the new Government.
In the run up to the elections, Rajan had told an audience in Switzerland that he “determine(s) the monetary policy. Ultimately, the interest rate that is set is set by me.” In response,  BJP leader Subramanian Swamy had reportedly lashed out at Rajan and his interest rate management and offered the advice : “We need to immediately drop interest rates.”
The BJP has however in recent days indicated that it would defend the RBI’s autonomy and Rajan’s job was not at risk.
How to manage the monetary policy to tweak growth and at the same time get Rajan to agree with the BJp's priorities, will be a concern for the Modi government. That could spell either the first public `war’ over economic policy-making or the first successful wooing of a `Congress’ econo-crat into the BJP fold.

Golden Goose

Raw Gold Bar

The government had increased the gold import duty and other curbs on the yellow metal to deal with the current account deficit, the difference between inflow and outflow of foreign currency, which had touched $88 billion during 2012-13. The curbs had brought down the yellow metal imports significantly to $32 billion in 2013-14. 
However, high duty of 10 per cent and insistence on minimum export before importing more gold has hit the gems and jewellery industry, which has been stridently seeking review of the policy. One of India's big ticket exports, this sector's sales to the world market have fallen 11 per cent in 2013-2014 to $ 34.79 billion after having grown at an average of 15 per cent over the last  5 years.
The BJP led government by Narendra Modi, coming from Gujarat, which is the epicentre of the gems and jewellery sector, is certain to seek changes in the policy. However, the government is expected to adopt a cautious approach and go in for a staggered duty cut.

Coal Bill

Open Cast Coal Mine
 

Part of India’s growth story dimming is because mines which feed India’s factories have been forced shut by environmental cases. While new mines have been stalled by red tape.
India, which has one of the largest coal reserves in the world, with some 293 billion tonnes of coal under its forests, farmlands and deserts. However, with the mining sector shrinking by nearly 3 per cent during the last two years, India has been forced to import coal worth $ 15 billion last year and is expected to import another $ 17 billion during the current year. Similarly, mining of iron ore, vital to India’s steel mills which seek to ratchet up output to 300 million tonnes over the next ten years, has been stalled in much of the country by environmental and legal activisim.
The Modi Model has long claimed that its problem solving capacity is far greater than the long drawn out consensus approach favoured by Manmohan Singh’s UPA Government. Many say the silent mines will be this Model of Governance’s real test.

Will Chidambaram Manage to Clean up the Economy?

When P. Chidambaram took over as finance minister of India for the third time on July 31, last year, he inherited a slowing economy, high inflation rates and an acute state of policy paralysis.
Though the Harvard educated, right-wing minister has kicked in a few reforms – liberalising foreign investment rules in a retail and aviation, bringing out new bank licensing norms, cut oil subsidies, and generally tried to stem the rot by getting cabinet to clear long delayed projects, the story remains the same – India’s economy is still in a mess and perhaps in some respects in a worse mess.
India grew at 6.5 per cent in 2011-12, the last year that Pranab Mukherjee ran North Block. In the current fiscal, under Chidambaram’s watch, the economy is expected to grow at 5 per cent, a straight growth slowdown of 1.5 per cent.
The fiscal deficit, or the gap between what the government spends and earns,  which Chidambaram has bravely tried to rein in by pruning not only wasteful subsidies but also defence spending, is still going to be 5.3 per cent of GDP. When that figure is coupled with state government deficit, the actual deficit of the government sector would amount to a high of 8-9 per cent of India’s economy. To put it in perspective, India’s fiscal deficit is three fourth’s the size of Pakistan’s entire economy.
This obviously means, that despite pressures from party colleagues, Chidambaram will have to be cautious about spending splurges and better at garnering revenues – which stand at a tad below 18 per cent of GDP (with taxes contributing to just half of the earnings) compared to 35 per cent for Brazil, 38 per cent for Russia, 39 per cent for the UK and 28 per cent for the US, not to speak of the 40 per cent of GDP which the Germans manage to collect. Of course, part of India’s dismal tax collection ability comes from the fact that a mere 2.5 per cent of its population pays taxes. The rest simply say they don’t earn enough to cough up any money. But then this is a year which runs up to a General elections, next year, and most of Chidambaram’s colleagues still suffer from a hangover of Socialism inherited from Indira Gandhi’s rule. Checking populist spending will be one tough task – especially when India showcases it’s `Right to Food’ bill which could sap up more money in subsidies from the budget than any other. 
Chidambaram will certainly have to work harder to earn more. One way would be to fast track the Goods and Services Tax. Another to  cut out various exemptions which corporates’ enjoy, roll back some of the excise and service tax cuts given to industry in the post-global meltdown period. A surcharge on the incomes of the `super rich’ is considered highly likely as is a commodities transaction tax on the lines of the securities transaction tax, to partly generate taxes and partly regulate a wildly oscillating commodities market.
This year, sales of shares in state run lumbering giants like  NTPC and Oil India, could not earn the government its targeted Rs 30,000 crore. But Chidambaram will probably bank on an improving stock market to try earn more from aggressive sales of PSU stocks. Similarly, poor appetite for a badly managed auction of radio-waves fetched India less than Rs 10,000, a fourth of its targets. North Block in conjunction with Sanchar Bhawan, home to the telecom department, will certainly try again.

NTPC Power Plant

Last year, the country’s current account deficit or the difference between the dollars, Euros and Yens we earn or which flows in by way of investment or debt and dollars, Euros or Yens we spend on importing oil, gold, jet aircraft and power plants, bloated to 4.2 per cent of GDP. The Reserve bank of India, tasked with managing our foreign exchange reserves, considers this to be alarmingly higher than what is prudent, which pundits at the central bank say should be 2.5 per cent of GDP.
This year that current account deficit figure is likely to be 5.2 per cent, far bigger than what Mukherjee had left the country saddled with. To put it in perspective, in 1991, when India ran into its worst foreign exchange crisis forcing the country to pledge gold to pay off impending debt closures, India’s CAD was 3 per cent of GDP. India’s rising import bill and weak exports has seen the rupee value falling from about Rs 44 to the dollar in April 2011 to over Rs 53 to the dollar as of today.
No wonder that earlier this week, Moody’s rating service warned that India’s widening current account deficit and the spurt in its external debt meant the country risked a downgrading of its credit rating  outlook.
Last year, under Mukherjee’s watch, India had received a similar threat from Standard & Poor’s  which had announced there was a one-in-three chance of a sovereign rating downgrade to junk status, leading to much consternation at North Block. Given that India’s total debt to GDP runs at a high ratio of 70 per cent, similar to the United Kingdom’s whose rating was cut today by Moody’s, India needs to perk up and try attract more dollar and Euro inflows.
This should mean more sops for foreign investors, more easing of rules for debt inflows, perhaps Sovereign status for rupee denominated bonds to be issued by public sector companies (but paid for in dollar or Euros) and certainly more concentrated attempts at encouraging value-added exports.
Not to speak of steps to stall the import of more gold, the single biggest item of import after oil and to check import of cheap telecom and power gear by posing higher taxes on them or by encouraging local manufacture of substitutes. India had last month raised import duty on gold and platinum to 6 per cent from a previous 4 per cent in a bid to break the country’s huge appetite for imports of gold. However, what the Reserve Bank and finance ministry would like to see would be a scheme to monetise India’s estimated 20,000 tonnes of gold reserves worth around $ 1.16 trillion, stashed away in household hoards.
One way out, could be gold banks, suggested by the RBI, to collect household gold against bonds, whose value went up or down with the value of bullion.  The gold so gathered could be on lent to jewellers, reducing imports.

India's Gold Obsession

Chidambaram will also have to be mindful of the savings rate which has been falling like never before, putting at doubt India’s ability to reach the professed goal of 9 per cent GDP growth. The RBI estimates household savings have plummeted to 7.8 per cent this year from 12.2 per cent in 2009-10. North Block, many aver, will certainly be looking at ways of encouraging middle class Indians to save more by giving larger tax breaks for pension and insurance products and to buy houses. Some say total exemptions for the `aam admi’ could well go up to a princely sum of Rs 3 lakh.
But then, how much the scion of the Rajah's of Chidambaram will risk and how much he will bow to popular sentiments will be something which will be revealed in just a couple of days.