Growth, Crisis, Revival and Issues in Macroeconomic Management

Sebastian Morris March 24, 2010

(c) S. Morris, IIMA

Prices

AD (fiscal, monetary Policies, exchange rates, world Demand, investment, sentiment) AS (raw matls, Import price)

Income Y* Yf (structure, technology, inv Reform, ethos, governance etc)

(c) S. Morris, IIMA

The Current Situation (Immediately foll Crisis)

Growth has fallen much less than expected Large fiscal boost the key to the revival
NREGA, Social Sector Expn, Rural Infrast Tax breaks on indirect and now indirect replaced by direct tax breaks Pay commission effects continue Very lately by exports and exports of services Remittances help more steady than was expected World Expansion (US, China, Europe)

Led by manufacturing sector

(c) S. Morris, IIMA

Indian Situation Prior to Crisis

High growth
kick started by GQ spending revival of US and World Demand Exports (20+ percent) Tradable services become significant (vey high growth) continuing gulf remittances nearly open capital account supportive monetary policies ex-post though not ex-ante Sharp rise in the share of investments
(c) S. Morris, IIMA

 Response of Monetary policy

tried to resist monetary expansion sterilization Limits reached rupee allowed to float upwards negative impact on exports expected and began CRR (reserve requirements raised) to curb inflation Large monetary squeeze, Pressure on growth but little impact in lowering inflation Growth had begun to decline even before the subprime crisis
(c) S. Morris, IIMA

 Concerns
High inflation on food and fuel that was passing through High asset side prices esp. in real estate Employment growth

(c) S. Morris, IIMA

RBIs Response to Crisis in India

Dollar liquidity problem converted to a rupee liquidity problem by the RBI
Indian financial sector exposure not very large But Indian businesses who had borrowed internationally stood exposed to dollar rise RBIs mistakes
allowed FIIs to exit vast fall in NFA (15 then 60b $) FIIs punished but not doubly (1BUS$ coming in in 2004 = 400m going out in 2008 JRVarma,IIMA) But intervention in exchange market was mistaken should have allowed the rupee to fall temporarily Massive crunch on liquidity mm*NFA; massive credit crisis in India

Much time wasted in moving to expansionary monetary policy RBI still worried about inflation!!
(c) S. Morris, IIMA

 Impact on the real sector

steep fall in investments steep fall in exports Sympathetic fall in spending is on Very large job losses
diamonds >400,000; tiles, textiles, export, IT, processing; waste processing industries

Slow down on IT before its sharp decline? Or is there hidden opportunity to cut wage costs and bounce back? Real estate and construction most badly affected
real estate bubble? 3 times increase in prices overextended developers, but housing loans more or less safe? But a little later as IT people lose jobs? Collapse of commercial real estate as investments fell
(c) S. Morris, IIMA

 The recent fiscal response

Delayed but came out big Spending increase has been very large Could have been much more on the investment side

Inflation continues to be high on primary side; On the mfg side it is very low

(c) S. Morris, IIMA

Assessment
The Nature of demand
IT/ BPO spending effects (housing cars, other durables) Very large increase in role of traded sector Absolute advantage of the services sector Large role of remittances large labour market flexibility free imports and falling tariffs quell any local monopoly spending effects of gulf remittances

Step up in investment so Yf is increasing rapidly/ can increase rapidly (GCF 37%?)

adjusted Investment may be higher than 40%

Large buoyancy in savings s > i ?

(c) S. Morris, IIMA

 Idle capacity in mfg. Idle capacity in tradables esp. export industries The Real Side
steep decline in share of public investments from 52% to less than 20% (1.2-2% add on) improvements in the public sector large rise in productivity of the corporate /large sector about 4+% in labour/ IT shopfloor TFP rises Some infrastructural gains (ports, airports, telecom, roads in part, village roads, airlines, in part power)
(c) S. Morris, IIMA

Industrial reorganization DUPs have come down tax, rates, delicensing governance improvements

The issue of large capital inflows and making the task of monetary policy difficult
itself the result of monetary targeting autonomy on M actually weak without imposing large variations in credit H = DC+ NFA

Money GDP Ratio can increase

increasing transactions intensity idle cash balances financial market uncertainities

(c) S. Morris, IIMA

 Can supply side inflation be fought with a demand side pull back?
If elasticity for demand for money >1 then ?

The issue of idle reserves

from $50b to $150-200b? a structural problem of shift in economic and trade weight Should the RBI do disequilibrium pricing Dutch disease on mfg

The issue of rate of growth?

Is any rate below 10% going to be pro-poor emp elasticity 0.15 (1.5%) Export led growth to raise elasticity (0.5+)?
(c) S. Morris, IIMA

 The contrast with China

interest rate and exchange rate targeting countercyclical fiscal policy monetary subservience very high growth pursued moderate inflation nevertheless (investment 42-43%) Every prediction of global whiz kids, WB and IMF proven wrong every year? Yet the adherence to monetarism world wide?
(c) S. Morris, IIMA

Concerns
Macroeconomic
Capital outflows, fickle capital inflows, Outward FDI and the selloffs

Infrastructural policies
energy policies (under investment possibilities) power sector blues continue and deepen inputs to agriculture especially power and water are major PPP frameworks not ready in many sectors Regulatory framework contributes to risk

The constraint of land acquisition The agricultural constraint Widening income gaps despite faster growth of poors incomes in many parts
(c) S. Morris, IIMA

 The mill stone of Planning Commissions Centrally Sponsored Schemes Interregional disparities Public failure in crucial areas of human development and well being: municipal infrastructure, public health, education, drinking water The constraint of urban areas
sky rocketing real estate prices

The emerging skills constraint?

(c) S. Morris, IIMA

Growth Facts GDP and Aggregates

(c) S. Morris, IIMA

Ex hibit: Grow th Ra te s Achie ve d by the India n Econom y ove r the Ye a rs (1990-91 Consta nt Price s) 0.15 0.14 0.13 0.12 0.11 0.1 Exp % Per A nnum 0.09 0.08 0.07 0.06 0.05 0.04 0.03 0.02 0.01 0
19 51 19 57 19 60 19 54 19 63 19 69 19 72 19 66 19 81 19 84 19 87 19 78 19 90 19 75 19 93 19 96 19 99 20 02 20 05 20 08

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Gross domestic produc ts by expenditure or demand (at constant 1990-91 Prices) Private final consumption expenditure Government final consumption expenditure Gross capital formation Agriculture & allied

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Growth in GDP and Sectors (1990-91 Constant Price)

0.25

0.15

GDPFC Agri.& Allied Industry Services

0.05

-0.05

-0.15 2000
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2002

2004

2006

2008

2010

YrQ

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Growth Rate IIP Various

h
0.38 IIP (All) IIP (Mfg) 0.28 IIP (Capital) IIP (Consumer) 0.18

0.08

-0.02

-0.12 1990 1994 1998 2002 YrQ 2006 2010 2014

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Fiscal Deficit and Govt Exp

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Examining the Inflation Story

(c) S. Morris, IIMA

Inflation in WPI (w/w), and Role of Primary Artcls and Fuels etc. (% p.a)
0.16 All Comm. Prim.+Fuel etc

0.12

0.08

0.04

0 1990 1994 1998 2002 2006 2010

Yw Sebastian Morris, IIMA

(c) S. Morris, IIMA

Inflation in WPI (w/w), and Role of Primary Artcls and Fuels etc. (% p.a)
0.16 All Comm. Prim.+Fuel etc

0.12

0.08

0.04

0 2004 2008 Yw Sebastian Morris, IIMA

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2012

Inflation in WPI (w/w) (% p.a)

0.35

0.25

All Commodities Primary Artcls. Fuel, Power etc Mfg. products

0.15

0.05

-0.05 1990 1994 1998 2002 2006 2010

Yw Sebastian Morris, IIMA

(c) S. Morris, IIMA

Inflation in WPI (w/w) (% p.a)

0.17 0.14 0.11 0.08 0.05 0.02 -0.01 1990

Prim.+Fuel etc Mfg. Products

1994

1998

2002

2006

2010

Yw
(c) S. Morris, IIMA

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Observed and Fitted Inflation in WPI for Mfg (w/w, 52)

0.17 0.14 0.11 0.08 0.05 0.02 -0.01 1990 1994 1998 Yf
(c) S. Morris, IIMA

OBSERVED Fitted

2002

2006

2010

(c) S. Morris, IIMA

Regression InflMfg on InflPrimary and InflFuel Coeff. St.Cff. t Sign. Constant InflFuel(-1) InflPrimary(-1) InflFuel(-7) InflFuel(-11) InflPrimary(-11) R-adj Sq No of Observations F-Ratio
(c) S. Morris, IIMA

0.013 0.064 0.274 0.071 -0.088 0.226

0.002 0.028 0.028 0.045 0.035 0.028

6.280 2.274 9.939 1.573 -2.491 7.993

0.000 0.023 0.000 0.116 0.013 0.000 0.458 767 130.585

The LM side

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Foreign Investments

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The External Side

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h (Index 1999=1) Nominal Exchange Rates

1.5 1.2 Rs/$ Rs/Pound Rs/Euro Rs/Yen

0.9

0.6

0.3

0 1990 1994 1998 Yr 2002 2006 2010

(c) S. Morris, IIMA

Foreign Investments and Foreign Direct Investments (to GDP)

0.14 0.1 0.06 0.02 -0.02 -0.06 -0.1 2003 2004 2005 2006 yr 2007 2008 2009 Portfolio net Direct net

(c) S. Morris, IIMA

Trade and -Invisibiles- Openness

0.36 (Exp+Imp)/GDPFC (Inv E+I)/GDPFC

0.31

0.26

0.21

0.16

0.11 2000 2005 Year

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2010

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Comparing with Other Countries

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Nominal Lending and Real Interest Rates (India and China)

20 15 10 5 0 -5 -10 1975
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IND.W96 CHN.W96 IND.w102 CHN.W102

1985 Year

1995

2005

M3 and Domestic Credit Provided by Banks as % of GDP (India and China)

180 150 120 90 60 30 0 1960
(c) S. Morris, IIMA

IND.M3 CHN.M3 IND.DomCredit CHN.DomCredit

1970

1980

1990

2000

2010

Year

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Today

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