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Emerging Economies to be New Engines of Growth

Atul Kumar Thakur
Nov 2011

Analysis of Select OECD Recommendations

“India continues to achieve one of the highest rates of GDP per capita growth in the world. Nevertheless, the income gap with OECD countries remains large, primarily reflecting low levels of labour productivity, calling for further reforms to support rapid and inclusive growth”.

More than the fear of cyclical recession and failure of financial institutions, the biggest worry for the global economy in the twenty-first century is that all OECD economies, which shaped, dominated and furthered the growth of global trade in twentieth century appears to have lost their edge and steam for the first time in modern period.

The three major economic zones - US, EU and Japan are expected to entwine with a long-term low growth trap with additional risk of periodic recessions. The OECD reports of 2011 simply acknowledges the impending grim prospects in its constituent economies and projecting the emerging economies, especially India, China and Brazil as new engines of growth in twenty-first century. It's indeed an unprecedented privilege for India to respond to these new international trade fundamentals which can make it advance its prospects at many levels.

“One-size fits all” or Country Specific Reforms

Report on Economic Policy Reforms: Going for Growth, underlines it more resolutely as “India continues to achieve one of the highest rates of GDP per capita growth in the world. Nevertheless, the income gap with OECD countries remains large, primarily reflecting low levels of labour productivity, calling for further reforms to support rapid and inclusive growth”. Incremental reforms of administrative regulation introduced by governments at all levels have led to some improvement in the operating environment for business. However, more fundamental reforms are needed in specific sectors.

Obviously recommendations have been referring for more liberalisation with lesser regulatory intervention. That simply pushes forward a “dichotomous scenario” with the kind of “reforms” India has been carrying in last two decades. This particular report is unable to broaden the distinct choices of economic reforms like of regulated reform or reform based on mix economy model, which emerging economies can pursue in the days ahead. Hence, with concentration on better prospects, India should rely on its own model of reform instead of following the bandwagon of saturated economies!

Structural Reforms to combat challenges of Sustainability

OECD Economic Outlook (No. 89, May 2011) presents the overall picture of global economy with special coverage of ongoing slowdown. It wrongly articulates that the global recovery is becoming self-sustained and more broad based but then why unemployment remain high across most of the OECD countries? Rather as policy recommendations, stress should have strongly oriented towards structural reforms which could play a key role while taking into account country-specific needs and institutional features.

In emerging economies too, structural reforms could make growth more sustainable and inclusive while contributing to global rebalancing and enhancing long-term capital flows. Ofcourse inflation will be remain a cause of concern in the emerging economies and need judicious monetary policies to address them, and not take blind actions based on suggestions of the OECD report. It will also be wrong to follow that fiscal consolidation and prudence shall be confined within the advanced economies; rather it should equally concern the nations aspiring to be significantly slotted in world trade. Apprehension of this report is now very much in action as downside risks are on the verge of interaction in US/ EU, and their cumulative impact could weaken the recovery substantially, it may also lead to stagflationary developments in some of the advanced economies. Moreover, it will be a blunder to believe that higher inflation could address debt sustainability. Even it could perilously flirt with inflationary expectations, with the outcome that interest rates would soon increase more than inflation. This knowledge paper is somehow closer to the ground realities but not without missing and confusing some of the major challenges of sustainable growth.

Global economy, inflation and India's Growth Story

OECD Economic Surveys: India (June, 2011) (http://www.oecd-ilibrary.org/economics/oecd-economic-surveys-india-2011_eco_surveys-ind-2011-en) highlights the risk of inflation and volatile capital flows, which are indeed the most formidable challenge for India's uninterrupted growth story. Report acknowledges well that fiscal consolidation has resumed and new frameworks may help. It's true, prior to 2008, good progress had been made in reducing large fiscal deficits at the central and state levels under targets set out in the Fiscal Responsibility and Budget Management Act (FRBMA, 2003). In the following years, government finance had sharply reduced yet few quintessential welfare subsidies on oil, debt write off, enhanced salary provisions, tax cuts etc. in the response to the slowdown are putting pressure on fiscal discipline. There is a need for new policy measures that can balance the chord of welfare expenses and fiscal discipline. Let us discuss selected points from the various chapters in the survey.

On the way, yet to reach

Chapter 1 (Sustaining growth and improving living standards) emphasizes that expansionary macroeconomic policies cushioned the downturn and domestic demand led to the recovery. It's also true, private investment which benefitted from ongoing liberalisation and high private saving was a vital source of growth. Let us not forget that the pre-crisis period was also characterised by a high degree of macroeconomic stability, reflecting benign economic conditions in advanced economies.

Comparatively, India weathered the global downturn well like other emerging economies. India also suffered as liquidity constrained firms and banks in advanced economies reduced foreign asset holding to shore up their balance sheets which witnessed sharp capital outflow and that is still an ongoing concern of international market.

On contrary, another fearsome possibility is that strong capital inflows could put upward pressure on the rupee, raising the prospect of worsening competitiveness and a further widening in the Current Account Deficit (CAD), which is already high by historical standards. Since mid 2010, the nominal effective exchange rate has gradually depreciated but with relatively high inflation, albeit the real effective exchange rate has been relatively stable. The exchange rate policy has evolved and the capital account has continued to open up gradually, even though progress has been uneven and it remains relatively closed. Post Asian crisis in 1997, the rupee was linked closely to the dollar which influenced the further course. Though RBI has been promoting counter-cyclical macro prudential policies, it needs to be more active and practical now to show through actions the intent and commitment of the finance ministry.

At this juncture, financial sector reforms need a speedy push, especially licensing of the new banks in private sector. This section stressed that, the rapid economic growth has reduced the incidence of poverty; which is agreeable an extent but not without the serious persisting flaws in growth agenda. As a solution, welfare measures have to be reachable and accessible to the all targeted beneficiaries. Despite citing administrative and other bottlenecks, this part of report suggests that the India is continuing to catch up its goal.

Look before you leap

Chapter 2 (Fiscal Prospects and Reforms) considers India's fiscal consolidation programme a partial success, which is true. The period of fiscal restraint lasted in 2008 for domestic compulsions and overwhelming world growth that fuelled up energy and commodity prices, the government raised public expenditure markedly. In the current policy debate, a new framework for fiscal policy is the need of hour. FRBMA has already expired years back. So, the central government's goal to reduce Gross Fiscal Deficit to 4.1% of GDP by 2012 and 3.5% the year after urgently requires a proper policy maneuvering. In this direction, the Finance Commission's 2009 report on fiscal relations between the central and state governments appears rational. It recommended that the Central government should go further and reduce its fiscal deficit to 3% of GDP by 2014. The Commission also recommended 2.4% deficit for the states, bringing a combined deficit at both levels of government to 5.4%; down from its 2010 level of 7.2% of GDP. On taxation, OECD recommendations are completely stereotypical with having single aim to promote the greed of corporate world by ignoring the progressive fundamentals. The extreme policy recommendations need careful restraint.

Energy Security – Mixed signals

Chapter 3 (Phasing out Energy Subsidies) presents contentious and dubious viewpoints on India's energy management. Report mandates that “India's petroleum subsidies are economically and environmentally damaging”, which is an overt escaping of realities that is persisting around the world. It is partially right on Coal market reform but again slips while recognising Public Distribution System (PDS)/ Oil subsidies and electricity subsidies as impediments before the development of oil and energy sector. This shows the denial of distinct political characteristics of Indian economy which has its own set of working model and cannot solely rely on cases of the western model of development.

Time for another round

Chapter 4 (Financial Sector Reform in India: Time for a Second Wave). It is intriguing to review the last Union Budget and this report as it seems that the finance ministry is subscribing to almost all OECD recommendations on financial reform! Reports suggest the speedy implementation of the institutions like, National Treasury Management Agency (NTMA), Pension Fund Regulatory and Development Authority (PFRDA), Financial Sector and Development Council (FSDC) and Financial Sector Law Reforms Commission (FSLRC). Surprisingly, in lieu of giving greater freedom/ competency to banking operations, reports suggests some incomprehensible measures, like setting out a plan for ending Priority Sector Lending (PSL), rapid liberalization of interest rates on deposits, gradual reduction of the proportion of government bonds to be held by banks, widening of the scope of trading through Credit Default Swaps (CDS), introduction of standard terms for Corporate Bonds, reducing of KYC requirements and transaction taxes etc.

OECD should clarify if they have only a uniform model of financial reform that has already shattered world's most exotic and exciting financial market of US/ EU. India must either ignore the stereotypical prophecy or simply turn down any reckless model of financial liberalisation without having a touch of the commitment for its policies. Moreover, it shocks to read that RBI should sell its electronic government bond market and the clearing house to the private sector and NABARD should be sold to the government. It means RBI should cease to have its stake in NABARD, both of which are unworthy suggestions and points towards dubious intent of OECD's reporting on India's economic growth. The only solace is that the report acknowledges the financial health of India's banks and finds them competent enough for complying with the BASEL-III norms. But even this not bereft suspicion and citing privatization in PSBs, instead of showing a different course for private banking and making them core competent with the Public Sector, Regional Rural and Co-operative Banks.

Privatization of Education – Is it the solution?

Chapter 5 (Building on Progress in Education) recommends of maximum withdrawal of regulatory intervention and maximum allowance of private capital in higher education. Besides “Improving incentives for stronger performance by making funding less input based. Tie funding to accreditation and assessment outcomes and increase share of project based funding for research”. In less technical terms, report enters with its recommendation as it handles a plain capitalist market and not the world's most vibrant democracy where policy cannot be altered from the maximum welfare of the population. This section is even more disappointing as it fails to even canvass what are the real hindrances of the education sector?

Hybrid Reforms

There will be no denying of the fact that, India's growth momentum is the outcome of its judicious experiment with the mix of regulation and reform in its economy. Since 1991, India has improved its overall fundamentals in economy, and successfully crossed troubling recession. Despite these positive scenarios, India's growth is less than its potential and needs better governance and regulatory control to end the frills of free and fair businesses. And ofcourse, without making its Public Sector less competent and less happening.

OECD reports are reminder of the concern that India must follow its own path, based on intrinsic compulsions and welfare the people instead of Corporations. Only then our RBI Governor will be smarter and cheerful than the other Central bankers from across the world and even the Mint Street will be less greedy than the re-doubtful Wall Street.

4 Comments >>

Junise

16 Mar 2012 (02:40:33)

Good to see real expretise on display. Your contribution is most welcome.

Kumar Padmanabh

17 Nov 2011 (05:28:48)

As usual good analysis, good content and a good learning for me..

Ashutosh Kumar Thakur

17 Nov 2011 (05:30:57)

Nice reading this research analysis on OECD Reports.It opens many aspects into light with taking matter forward for India's balance growth with equity.

ABHINAV Thakur

15 Nov 2011 (08:21:53)

ya definitely OECD is committed to democracy and the market economy, because it provides a platform to its meber countries to compare their policy experiences, seek answers to common problems, identify good practices, and co-ordinate domestic and international policies of its members. And in Concern of India, this article focuses India vis-a-vis OECD policies, India must follow its welfare policies to maintain its sustainablity and Inclusive growth.... well written article!!!!

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