Indian economy: Near zero growth?

Economic and financial gloom and doom, which descended on the country in mid-2008, have since only gotten worse.

The Government and the Reserve Bank of India responded early and aggressively with a series of fiscal measures and rate and Cash Reserve Ratio cuts. Money is now cheaper and ample in the banking system. Will these effect a turnaround?

Worst in 25 years

Current conditions are the worst in over 25 years. The globalisation of trade and capital flows and the fact that the US has been the principal engine of growth mean that the financial meltdown in the world’s largest economy has hit the rest of the world really hard.
In two ways. Exports have crashed, putting factories and people out of work in the US and the export-oriented economies of China and the rest of South East Asia. The Information Technology sector in India is an equal casualty as are the US-dependent textile industry and parts of engineering.
Second is the impact of portfolio capital pullout, accompanied (naturally) by a slowdown in new capital inflows. This has driven down stock and real estate prices and wiped out the “wealth effect”, which was a major growth catalyst for the last many years.
Mr Friedrich von Hayek, the Nobel prize-winning economist of Austrian origin, thought overinvestment in boom times would eventually end in a collapse.
Mr Hyman Minsky, an American economist, seems more relevant. He theorized that cheap credit and easy liquidity would sow the seeds of an asset price bubble. When the inevitable crash comes, businesses and households will find themselves in an overborrowed situation.

Perfect fit

Mr Minsky’s hypothesis fits us perfectly. Far too easy money propelled stock markets and property to never before seen price highs. Consumption forged ahead of current incomes. Corporates went on an investment and acquisition spree on the assumption that capital, both of the equity and debt types, would be ever-plentiful. Their calculation has proved to be grossly off the mark.
Clearly, the Government has underestimated the highly overleveraged condition of corporate and household balance sheets. It will take a while for the latter to be repaired.
As far as businesses are concerned, one must hope that they do not collapse under the weight of their debt till things improve. This means consolidating and stabilising balance sheets will precede new investments. Meanwhile current sales are shrinking. Corporate profits will be knocked down quite a bit.

The Government’s assessment of 6 per cent growth, therefore, looks far too optimistic. It would not surprise if the Indian economy was close to zero growth in the fourth quarter of 2008-09. Avoiding recession territory in the first quarter of 2009-10 is itself going to be an achievement.