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  • India Stays on Path to Economic Failure

    STR/EPA/Newscom

    Thursday was a really bad day for the Indian economy.

    Gross domestic product (GDP) growth for the October–December quarter came in at 4.5 percent, continuing to weaken. Worse, the central government budget for the next fiscal year leaves India on the same, failing course it’s been on of undisciplined spending and unrealistic expectations.

    First, GDP. GDP is a measurement of economic activity, not economic prosperity, and it is badly understood and used in describing performance. It is certainly possible for India to report 4.5 percent GDP growth in a healthy economy, even if this is a far cry from the pre-crisis pace.

    However, the Indian economy is not healthy. Consumer inflation remains above 10 percent, where it has been for years. More attention is paid to the wholesale price index, but it is consumer inflation that bears more directly on buying power. The true wealth of Indian households has stagnated in the past four years as income growth has slowed and consumer inflation remains high.

    In terms of GDP components, services lead. In a more mature economy, this would be good news. India, however, must create tens of millions of jobs in response to demographic expansion. This requires manufacturing to lead the economy, and it is not doing so. The reason underlies all of India’s economic problems: lack of reform.

    Services lead in large part because the labor market is more flexible in services industries than in manufacturing. Rather than labor market reform, the Indian government offers a state-led infrastructure program. But the infrastructure program has no chance to succeed while property rights to land remain so ill-defined.

    Reform is politically difficult. As with governments all over the world—including the U.S.—India is making the huge mistake of substituting spending. The budget results for the last fiscal year were barely acceptable, with the deficit at 5.2 percent of GDP. The proposal for this year is a triumph of hope over courage: Spending is to increase by 17 percent, yet the deficit is to fall to 4.8 percent of GDP.

    This won’t happen. Either spending will have to be curbed or the deficit will balloon again. The India government keeps acting as if the economy will magically return to its rapid expansion of 2007, where incomes were growing so fast they outpaced even high consumer inflation, and government revenue poured in to cover wasteful spending.

    But that all stemmed from reform early last decade. Reform was absent for years and has only just begun again. Without a sustained reform process, which will take considerable time, India will not return to the days of fast growth. Government revenue and GDP will continue to disappoint, deficits will continue to be high, and consumers will continue to suffer. This is the path India remains on.

    Posted in Economics [slideshow_deploy]

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