Overview of the Indian Economy: Budget 2008 and beyond

1. Overview of the Indian Economy: Budget 2008 and beyond By A.V. Vedpuriswar

2. The Indian Economy at a glance

3. The Indian Economy GEN0190n.ppt

4. The Rupee vs Dollar GEN0190n.ppt

5. EIU forecasts

6. Highlights of Economic Survey Economy will slow down to 8.7% in 2007-08 Inflation projected at 4.4 per cent in 2007-08. Holding 9% growth will be a challenge. Inflation and infrastructure are the biggest growth challenges. Skill dearth is causing attrition, wage hike; pushing inflation Agricultural growth in FY'08 is seen at 2.6%, against 3.8% a year ago. Industrial growth slower at 9% in first 9 months of FY'08.

7. Recommendations in survey Complete the process of selling 5-10% equity in previously identified profit making non-navratna PSUs. Phase out control on sugar, fertilisers, drugs. Sell old oil fields to private sector. Allow a share for foreign equity in retailing. Raise foreign equity in insurance to 49 per cent. Allow 100 per cent FDI in greenfield private agri banks.

8. Key challenges

9. Challenges Although BPO, IT, Telecom, manufacturing have boomed in recent years, India’s economy remains mostly agricultural. Many parts of the economy are cut off from free trade. Restrictions on FDI make growing businesses difficult. Economic reforms, especially labor market reforms, have been slow in coming. Even without significant reform, India’s economy has performed so well (growing by 9.4% in the fiscal year ending in March 2007) that it may be overheating. Huge supply side challenges remain. Especially when we consider that by 2025 the country could have more than 580m middle class consumers - Source : The Economist

10. Multiplicity of regulations governing product markets Distortions in the market for land. Widespread government ownership. • Unfairness and ambiguity • Uneven enforcement • Reservation for SSIs • FDI restrictions • Licensing • Unclear ownership • Counter productive taxation • Inflexible zoning, rent and tenancy laws Three main barriers to growth GEN0190n.ppt

11. Growth inhibitors • According to McKinsey (2001) these factors inhibit GDP growth to the extent of 4% plus every year.

12. Using resources effectively Clearly this is the need of the hour But what does the data tell us?

13. A quick look at Union Budget 2008

14. 2008 Budget at a glance(Rs Crores) GEN0190n.ppt

15. Major plan expenditure GEN0190n.ppt

16. Where the rupee comes from? GEN0190n.ppt

17. Where the rupee goes? GEN0190n.ppt

18. Changing revenue mix GEN0190n.ppt

19. Budget deficit Currently, the revenue deficit is 1% of GDP. Fiscal deficit is 2.5% of GDP. But does this tell the complete story?

20. Off Balance Sheet items GEN0190n.ppt

21. What about the budget deficits of states? GEN0190n.ppt

22. India vs China GEN0190n.ppt

23. China is sitting pretty According to official estimates, China's government ran a budget deficit of around 1% last year. But some economists reckon that the cautious government is understating its true fiscal health: it probably had a small surplus. If the profits of state-owned firms were also added in, the government could have a surplus of around 3% of GDP. China's public debt has also fallen to only 17% of GDP, well below the average ratio of 77% in OECD economies. Indeed, China has the best fiscal position of any big country, giving the government plenty of room to cushion the economy if demand suddenly falls. By contrast, India, though improving, has one of the worst fiscal positions in the world.

24. The Indian government claims it has reduced its deficit to an estimated 3.3% of GDP in the year ending March, from 6.5% in 2001-02. However, in a recent report the IMF argued that the true total deficit is closer to 7% of GDP once we add in the state governments' deficits and various off-budget items. If the losses of state electricity companies are also added in, the total deficit could cross 8% of GDP. India's public debt is also uncomfortably high at about 75% of GDP. (The Economist)

25. Newspaper editorial Should the Fiscal Responsibility and Budget Management (FRBM) Act be scrapped? For this law seems to be having the perverse effect of making the government hide more and more of its expenditure and not show it in the Budget. The finance minister can then claim that he is meeting FRBM targets, when in truth he is not. Scrapping the law might encourage more honest budgeting. Business Standard

26. Sectoral Reforms

27. Agriculture GEN0190n.ppt

28. Farm loan waiver Moral hazard? What about people who have borrowed from money lenders? Is this the best way to help farmers? To give a boost to agriculture? A scorched earth policy?

29. Options to minimise the damage Give borrowers with good records lower interest rates. Lower credit limits/impose higher collateral on bad borrowers. Reduce the risks in agriculture This will lower the number of intermediaries and bring down the consumer price. And improve the realisation for farmers.. Institutional reforms to reduce the dependence on moneylenders. (Subhir Gokarn)

30. Get back to the fundamentals Increase output per acre. Reduce the gap between the farmer’s price realisation and what the consumer pays. Reduce wastage because of poor roads, inadequate warehousing and refrigerated transport. Reduce the number of people dependent on agriculture. Encourage organised retailing, contract farming, ebusiness (A.V. Rajwade)

31. Industry GEN0190n.ppt

32. No big ticket reforms in key industries Power Retail

33. Financial sector

34. Financial sector reforms Reduce micro management by RBI and SEBI. Liberalise derivatives and commodity markets. Encourage more competition and innovation To be a global financial services player, India needs : • - An open capital account • - Capable and efficient markets • - World class institutions and responsive regulators • - Less intervention by RBI and MOF. • - (Percy Mistry, MIFC report)

35. Raghuram Rajan Committee report “India is dangerously complacent. Its concerns about over-sophisticated markets resemble a clock that looks right only because it is 12 hours behind. Indian households put only about half of their savings in the bank, and banks funnel less than half of their credit to private firms, …. The government's financing needs crowd out other borrowers, and state-owned banks account for about 70% of India's financial assets …. The cost of these financial failings is probably a percentage point or two of growth. They leave India's savers with too little reward for their thrift, its poorer borrowers with too few alternatives to the moneylender and its incumbent firms with too much protection from upstarts, who cannot raise money to compete. “ The Economist, April 12, 2008

36. “If America's subprime crisis demonstrates the pitfalls of untrammelled finance, India illustrates the opposite danger. Since its regulators get blamed only for mishaps, not for lost growth and wasted opportunities, they are too conservative. ... New ideas are banned unless explicitly permitted. This helps regulators feel more secure, but it does little for the system's stability. ….For example, companies are barred from speculating in derivatives, but many have done so anyway. Those that have lost money now cite the very rules they broke as reason to back out of their obligations, saying they should not pay for mistakes they were not officially allowed to make.” The Economist, April 12, 2008

37. “Last year the government banned futures trading in two types of bean, rice and wheat, arguing that speculators were driving up prices,…... Some in the leftist parties, … now argue it should extend the ban to other commodities, such as edible oils and perhaps even iron and steel. This would be like “shooting the messenger”, argues B.C. Khatua, chairman of the Forward Markets Commission, which regulates futures exchanges. Before they were shut down, …. the futures markets conveyed the message that prices of wheat and rice would continue to rise. Sure enough, that is what happened.” The Economist, April 12, 2008

38. “The futures market provides farmers with a sneak preview of the prices they will face in the months ahead, which should allow them to make an informed decision about what to sow. In principle, futures contracts should also allow farmers to lock in a price for their crops, insulating them from the vagaries of the spot market. At the moment, farmers are too small to participate in the market directly… small banks could aggregate the demands of farmers up to a practical size. “ The Economist, April 12, 2008

39. Pensions The existing formal pension channels don’t cover unorganised sector workers. Given the dismal levels of penetration of financial services, a majority of Indian people are not contributing towards their old-age security. The Pension Bill could bridge that gap, and give people greater control over their retirement benefits.

40. Pensions ( Cont..) But the Left has been a stumbling block In 1981, Ronald Reagan launched the 401K plan in the US. The US pension industry, which was $60 billion then, is today a $9 trillion industry, with most of the money invested in equities. Under the shadow of the Left, the government has not moved on increasing FDI limits from 26% to 49% in insurance .

41. General economic reforms Subsidies Labour Education Entrepreneurship Legal system

42. Not a great place for entrepreneurs It takes 71 days to get all requisite clearances for starting an enterprise in India. The same will require just five days in the US, six days in Singapore and 48 days in China.

43. Legal system fails to deliver It takes 425 days to enforce a contract in India, compared to 69 days in Singapore and 241 days in China. According to a World Bank 2007 survey, ‘Ease of Doing Business’, India is ranked 177th out of 178 countries in enforcing business contracts.

44. Rigid Labour markets The absence of a bankruptcy law and labour reforms, especially the difficulty in retrenching workers, has also reduced the competitiveness of Indian firms. The Industrial Disputes Act, 1947—particularly, Chapter 5B—bars manufacturing companies that employ more than 100 workers from firing employees without state government approval. Employers have been reluctant to add extra staff during peak seasons because they cannot be laid off during lulls. Despite having surplus labour in the country, many large employers are expanding output through capital investment wherever possible. (Amit Mitra, Secretary General FICCI)

45. Education “Higher education is a dark spot. Though FM has enhanced allocation for education, he hasn’t done much for higher education. Starting a few IITs is not going to make much difference to the country. Bold steps are called for to open the sector. While steps have been announced to invest in skills development and education, clearly they are timid.” Nandan Nilekani, Economic Times, March 1 “We are very keen to do more in these areas but we have our resource constraints. So we cannot do everything at one go.” Manmohan Singh, Economic Times, March 1

46. Conclusion “Generous grants, compression, righteous rule and succour to the downtrodden are the hallmarks of good governance.” P. Chidamabaram in his Budget speech

47. Contact Informationav.vedpuriswar@ubs.com GEN0190n.ppt