The Telegraph
Since 1st March, 1999
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- The Indian economy is once again hostage to politics

The budget has been presented, commented upon, slightly revised, and will as usual be ignored by Parliament for more exciting events, and passed with some minor amendments and fine-tuning to meet the assumed election requirements. Everyone is now focussed after the invasion of Iraq and the late confused Indian resolution on the most recent initiative on Pakistan.

Meanwhile, consumer prices of petrol and diesel have been reduced, though slowly and by less than the rate at which they were raised. The oil companies say it is because they have yet to benefit from the sharp drop in international prices, though this consideration did not affect the fairly prompt response to the increase in international prices. The surface transport minister, presumably with the consent of the petroleum minister, had promised truck strikers that diesel prices would be reduced soon. Absence of an objective, independent and consultative determination of tariffs helps this opaque decision-making.

Privatization of Air India and Indian Airlines has been abandoned. The bonanza from the imminent purchase of new planes may be behind this decision. Substantial investments in new metropolitan airports, along with the investment in roads, should stimulate cement, aluminum, steel and other basic industries and the economy.

The petroleum minister fought vociferously against the privatization of Hindustan Petroleum and Bharat Petroleum, building coalitions within the cabinet. He may yet get his way with support from some National Democratic Alliance constituents, the opposition, and with the SARS epidemic leading to fears of reduced number of prospective buyers. No doubt this will become a repeat of the airlines privatization story that also saw similar tactics of “yes” and “no” over the years.

Meanwhile he is yet to decide on the principles for pricing oil products. The Oil and Natural Gas Corporation and the Gas Authority of India Limited want parity with “international market” prices. GAIL wants a national pipeline monopoly. The oil regulator is still in the pipeline, though its emasculated emergence may not make a difference to the sector besides providing yet more job opportunities for retiring government servants. So fuel prices (coal, oil and gas) continue to be set by government and the public sector companies.

Like clockwork, coal and oil products prices have regularly been raised. Oil companies make good profits though their administered and cross-subsidized prices hide their real efficiencies. Coal continues to be a highly protected public sector commodity, though the protection is not so much against foreign competition as against the interests of the user industries (electricity and fertilizers) and their consumers.

Fuel prices have been an important reason for the rising power generation costs, and consequent rise in electricity tariffs, yet inadequate to cover the fuel price increases. Costs of fertilizer subsidies for government have also risen with rising gas prices. Additions to electricity transmission capacity moving power from the East to the South and North have improved its availability. The availability-based tariff ordered by the Central Electricity Regulatory Commission three years ago was fought by the public sector up to the Supreme Court. Now implemented, it has begun to improve electricity quality as well as bring demand and supply into better balance.

But electricity reform makes poor overall progress. Losses continue to pile up and the one-time securitization that has cleaned the state electricity board balance sheets may have done so only temporarily. There is little private interest for investment in generation or distribution.

The Iraq invasion has aggravated the rising inflationary pressures in the economy. It had started with rising fuel and electricity prices. Food prices have been rising because of poor monsoons for two years. The poor monsoons now forecasted will worsen inflation. The truckers’ strike pushed the index to its highest levels of the last two years. It should fall now that the strike has been withdrawn. However, given the proclivity of traders to bring prices down more slowly than raising them, and the poor monsoon forecast, much of the increase will stay. Inflation seems to have come back.

Strangely, despite inflation and negative real interest rates, the Reserve Bank of India has reduced the bank rate and increased liquidity. The saver is left with few choices to safeguard his old age. Relatively safe investment opportunities are limited to the post office, RBI bonds, and a few mutual funds with after tax returns of around 6.5 per cent. Bank deposits are not attractive.

The finance minister would like the saver to go to equity but has yet not done enough to assure safety. Despite sops by removing tax on distributed dividends, and a one-year holiday from capital gains, equity investments continue to look risky, with declining values for most shares.Low interest rates could compel higher savings and less expenditure, holding up economic revival. Middle-income earners might have to increase savings for paying for earlier purchases on high interest hire purchase. But reduced interest rates have helped corporate results.

Consumer goods manufacturers are having a hard time, with vicious competition, erosion in margins, heavy marketing expenditures especially on promotions, and in the case of fast moving consumer goods, declining demand. Consumer goods will not see much of an upturn. Rural demand is not growing, and a poor monsoon will postpone it further. This will be the determining factor in the fortunes of consumer product companies.

Conscientious ministers are saying that analysts and commentators only see the dark side of the economic picture. There are certainly bright spots. Foreign exchange reserves are at record levels. Exports are on the rise and we have a surplus with the United States of America. With the abolition of reservations of garments manufacture for small-scale industries, exports are booming. India will be a strong player in the world after the abolition of quotas in 2005.

Exports of food grains and gems and jewellery remain buoyant. Industrial production is growing after years of stagnation. Production capacity utilization is reaching its limits and after a five-year hiatus investment in capital goods might grow again. The rupee is rock solid, and reverse currency flows into India are unabated. Indian money is coming back for fear of losing local assets because lenders can now take them over. Indians overseas feel that India is a safer haven than many others including the US. Dollar loans are flooding in.

But looming over these is the state of the world economy and particularly the US. The US has within two years converted a huge and growing budget surplus into a huge and growing deficit. Its overseas borrowings are so large, that any loss of confidence will lead to default. The US does not have the reserves to take back all the dollars lying with foreign lenders and investors. The Iraq invasion adds to the deficits. More overseas adventures will worsen the situation. A reconstruction bonanza, even if it comes, will be only a fraction of the exports that the US economy needs to overcome its ranking as the world’s largest debtor nation.

India has now logged on to a new “Hindu” rate of growth of between 5 to 6 per cent. The higher inflation rate, if it can be capped at 6 per cent, could add further to the growth impulses. But that seems unlikely. The poor monsoon will hold back growth, but exports and improving investment climate in industry could balance that loss. The budget has done little to stimulate the economy. Public investment might help the economy. But inflation has to be pegged if interest rates are to remain low, rising labour strife must moderate, savings must grow, infrastructure and especially power must improve, user charges must more reflect costs, fuel prices need to be regulated, infrastructure tariffs and prices of basic goods must come out of opaque government decision-making, and state and central expenditures must come down. Most of these things will not happen for the next two years. The economy is again hostage to politics.

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