No more SHORTCUTS for India

As always, workers have to bear the brunt of any adjustment and restructuring by business in a period of recession. That is how capitalism works.

Aseem Srivastava Delhi


History teaches us that men and nations behave wisely once they have exhausted all other alternatives - Abba Eban

That the India story is over is now widely acknowledged even within the establishment. But just how deep the forthcoming recession is, is becoming clearer with each passing week. Part of the problem lies with the fact that the definition of recession is itself problematic. In the rich countries,
two successive quarters of negative economic growth is called "recession". Certainly, by this yardstick, neither India nor China are in recession at the moment, even if their growth rates have been reduced by several percentage points each. (It would be absolutely catastrophic not just for them but for the world itself if these two countries were to go into recession - by the Western definition - at any point of time!)

However, for developing economies, such a definition cannot suffice. It is a lot easier for poorer nations to grow fast. So, deceleration in the rate of growth should itself be a cause of concern for policy-makers. And it is, despite repeated official denials by our leaders. Their anxieties are further aggravated by the fact that India is increasingly more integrated with the world economy. Foreign trade was a little over one-fifth of GDP in 1997-98. Ten years on it is well over a third. When foreign capital flows (together with trade) are taken into reckoning the shift during the last decade has been even more dramatic. The rise is from 46 per cent to 117 per cent of GDP. All this has huge implications for the country as the rich world sinks into a yawning abyss of economic difficulties, threatening to take the world down with it. The recession has exposed underlying structural weaknesses in
the Indian economy is fast becoming clear. All along, our leaders and the policy elites have been insisting that even if the (financial) "markets" are falling, the "fundamentals" of the economy are strong. So, it is suggested, it is a matter of time before fortunes bounce back. But how strong are the fundamentals actually?

Note that it is not just the stock market (its index, the Sensex, having lost more than half its value since the beginning of this year) which has fallen dramatically. Industrial output (presumably one of the key "fundamentals" of the economy) has declined in India for the first time since 1993. This has shocked the business establishment, no less than the government. The Index of industrial production fell by 0.4 per cent in October 2008, compared to a year ago. (Economists were predicting a growth of 2.1 per cent.) Within that, manufacturing declined by 1.2 per cent. It is strange consolation indeed when agriculture - the hitherto castigated laggard of the economy - is growing faster than industry!

Is the flagship of the economy, the service sector, doing any better?

The export end of it - IT, IteS, BPO and others - are suffering big slowdowns as a result of the collapse of consumer demand and fall in outsourcing in the West. But other service sector areas - travel, tourism, hospitality, retail, real estate, to name the most prominent ones - have also taken significant hits. Consumers, both in India and abroad, have postponed decisions to buy travel deals as much as houses. This despite favourable terms from the sellers in a very tight credit environment.

What explains the industrial recession? It is happening not just because export demand is falling rapidly. It is also because domestic demand is in retreat. Businesses have been drawing back their investment plans in view of the global climate (with shrinking markets abroad and at home), or are being forced to do so as credit, so cheap and easy till just some months ago, becomes difficult to obtain despite massive monetary infusions by the Reserve Bank of India (RBI). Nobody is willing to lend, certainly at low, affordable rates, because of gloomy expectations.

Banks and financial institutions prefer to use the extra cash they get to draw down their debts and reduce exposure. The RBI has eased monetary conditions dramatically, infusing over Rs 300,000 crore (almost 10 per cent of India's GDP) into the economy over the last few months. But credit expansion by banks has come to a standstill. Instead of lending the extra cash to businesses, banks have preferred to park, on an average, Rs 38,000 crore daily with the RBI. We are living through a classic "liquidity trap", similar to what Keynes had diagnosed in the Great Depression of the 1930s as the core of the problem.

Consumer spending has suffered a setback as consumer loans become harder to obtain and older loans come due. Indian consumers, unlike American ones, are quick to adapt to lower levels of spending in hard times. Additionally, as a result of job losses and growing insecurity of jobs, consumers are keen to postpone consumption. 

News is really gloomy on the export front. Despite the falling rupee, exports fell by 12 per cent in October, compared to a year ago. In November they fell by 10 per cent. It indicates the collapse of consumer demand in the West, especially in the US. The sharp decline in export demand can be observed in industries like textiles and apparel, leather goods, gems and jewellery, where workers are losing jobs in the hundreds of thousands every week. Cities like Kanpur, Agra, Moradabad, Surat and Tirupur are feeling the sag very visibly. 

A report released by ASSOCHAM around Diwali had predicted that leading sectors of the Indian economy may be shedding 25-30 per  cent of jobs during the coming year. The report had to be withdrawn after the Union finance minister, among others, took strong exception to it. There is plenty of official denial of what might be only somewhat exaggerated facts, perhaps to moderate business expectations which could spiral downwards, out of control, bringing down further the battered stock market.

Business outlook being the worst in decades, private corporate investment is falling rapidly. Plant shutdowns for extended periods in sectors like automobiles and other consumer durables are becoming normal, especially since growing fractions of these purchases were being loan-financed till now. Importantly, there is a dramatic slowdown in the production of commercial vehicles, indicating the shape of things to come. The market leader, Tata Motors, registered a 30 per cent decline in demand compared to a year ago, forcing it to shut down its plants in Jamshedpur, Pune and Lucknow on several days last month.

This explains why most Indian companies wish more than ever before to casualise and informalise their work-forces, as cost-cutting becomes the overwhelming imperative. As always, workers have to bear the brunt of any adjustment and restructuring by businesses in a period of recession. That is how capitalism works. New corporate adventures of recent times, such as SEZ projects, have turned into white elephants, at least for the time being. There are great difficulties in financing the projects when the business climate, especially for exports, has turned so adverse. Things are particularly rough for the huge number of product-specific IT SEZs, which are reeling under the impact of the American recession. The danger that SEZ areas will serve the fall-back plan of becoming real estate players is now all too imminent.

The Economic Times reports that SEZ investors are asking for further incentives, like even more tax breaks, to redeem their investments. There is a proposal to reclassify SEZs as "infrastructure projects" to make terms of credit easier for them. There is even talk of bailout packages for SEZs. The transformation in expected fortunes from them has been remarkable. 

One of the overwhelming effects on the Indian economy of the financial crisis in the West has been the dramatic withdrawal of financing of projects in India. The lethal effects on the Mumbai stock market of the quick withdrawal of funds by institutional investors are well-known. Less well-known is the fact that Indian businesses are finding it extremely difficult to get financing support for their projects, despite allegedly "strong fundamentals". The reason is that liquidity has been summoned by lenders in the West to "de-leverage" investments and rescue their mauled balance-sheets. So the fundamentals of the Indian economy really don't come into play.

The effect on India will be very large. Last year, for instance, external commercial borrowing (ECB) by Indian businesses was Rs 146,123 crore, when they borrowed a lesser amount Rs117,642 crore domestically. (These are among the reasons that the leading investment banks and the IMF have scaled down growth forecasts for India to 5-6 per cent for next year.)

Drying up of overseas finances would have been very bad news at any point of time. It is particularly bad at a time when large Indian firms have very vulnerable finances of their own. Most of them had growing shares of their assets in real estate and the financial markets till the crisis happened. The numbers looked impressive on the balance-sheets. But after the crash, a new reckoning has happened, making it very difficult for them to invest aggressively. Recall also that despite the best efforts of the Reserve Bank, banks are very cautious about new lending to businesses.

Is this the end of globalisation?

While it is still a bit early to argue that, present trends, such as the national (sometimes democratic) imperative that each country's government is feeling to safeguard its jobs and businesses is likely to drive them to protect their markets. The tendency to do so will be most powerful in affluent countries, which, in fact, have a history of acting in a protectionist way in times of depression.

While Barack Obama has spoken of creating green-collar jobs to tackle the climate crisis as much as rapidly rising unemployment in the US, it should come as a pleasant surprise if countries like India and China (which have hitherto enjoyed the benefits of outsourcing by US firms) do not lose markets and jobs back to the US in a time of historic crisis. However, the crisis is far deeper than the remedies seem to assume.

Ultimately, both in India and elsewhere, the crisis is one of demand. The explosive growth that India has seen in recent times has had a very narrow base. Poverty and rising inequality have kept the growth exclusive, limiting overall economic possibilities. We have to recognise that we have run out of short-cuts now. Nothing short of a long-overdue, historically unprecedented mass employment programme (which generates consumer demand even as it reduces poverty rapidly) will make growth and development sustainable in the long run.

In order to stem the tide, the Indian government, like the Chinese and many others, has announced a fiscal stimulus package recently, amounting to some Rs 35,000 crore. All the policy taboos of recent years - such as government spending on infrastructure, job creation and education - have been suspended as the corporate sector wants the State to take the lead with Keynesian expenditures to help resume economic growth.

To finance such a public programme it will be necessary to shelve the Fiscal Responsibility and Budgetary Management Act (2003), which does not allow, for instance, the Reserve Bank issuing credit for government spending. The biggest lesson that has to be quickly learnt from the growing crisis is that without an expanding home market, globalisation will spell further disaster
for India. 

The writer is a doctorate in Economics from the University of Massachusetts, he has taught economics and philosophy for many years