Rate Cut and Reforms Welcome, not enough

Shivaji Sarkar

Two good developments took place last week. Finally, the Reserve Bank of India decided to reduce interest rates and the Government’s chief economic adviser Kaushik Basu announced an end to retrograde “reforms.” While one may say hurrah, the two have not put an end to the gloom. The decisions have come amidst continuous rise in consumer – retail – price index and a slowdown in the economy.

RBI governor D Subba Rao feels that 0.5 per cent cut in the interest rate is a small measure to correct many wrongs done in the recent past. The central bank is not happy with some of the populist schemes such as MNREGA for valid reasons: it leads to a drain on Government finance, makes wages dearer and adds further to inflation.

What Basu says is in fact, in tune with Trinamool Congress leader Mamata Banerjee and the Left parties. The “reforms” in Government parlance only means further opening up the retail sector to large Indian and foreign investors, insurance to foreign companies, and a change in labour laws to suit the needs of the corporate at the cost of the workers. It is good that it is being put off as such measures would result in further unemployment and displace many small businessmen.

Importantly, the RBI has virtually admitted that it has not succeeded in controlling inflation through the lone monetary policy measure. Had good sense prevailed earlier, at least the contribution made by the RBI towards the inflationary situation by making investments and business expenses dearer could have been avoided.

The silver lining, however, is that the RBI itself eventually realises its mistake. It even takes a part of the responsibility for the slowdown in industrial and manufacturing growth. Besides, it also admits that fall in credit off take was also the result of its 13-time rise in interest rates. The RBI analysis states that fall in Indian banks’ liquidity resulted because of its tight monetary policy. The statement accepts that this critical gap was filled up by foreign direct investment.

The RBI statement is a cause for concern as well. If the liquidity position does not improve, the next eleven months might not see the expected growth of around seven per cent. The country cannot depend for long on Foreign Direct Investment (FDI).

The FDI has started shrinking, President of the Confederation of Indian Industry Adi Godrej cautions. Worse, the positive environment is not there and brand India image has got soiled, he states adding that “It has hampered long-term foreign investment.” Godrej wants reforms on fast track along with governance. However, this is contrary to what Kaushik Basu has stated.

The big question that emerges is: whether the scenario is confusing? Not really. Godrej is right to the extent that policy paralysis on the part of the Government has put a spanner. Those who want to invest in India are not confident of either the political environment or business atmosphere.

Policy indecisions and bureaucratic flip-flop on taxing businesses almost 50 years in retrospect has shaken the confidence of the business class. The impact of Vodafone decision has deeply affected business sentiments not only within the country but all investors abroad. Nobody wants to invest and then fight with tax authorities, who undeniably have enormous powers to harass.

The Government, under the influence of tax bureaucrats, is trying to introduce more stringent and retrograde rules. This sadly encourages bureaucratic discretion and vitiates the business atmosphere, which the RBI obliquely points out to. In fact, it is a clear hint for the Government that it needs to correct its policies on taxation. The indirect suggestion is that it requires simplification of procedures if it wants growth. The growth and tying of business and financial activities in knots cannot go hand-in-hand.

Another positive aspect of the RBI analysis is that it has also realised that banking services are becoming expensive and cumbersome. Therefore, it seeks to take steps to allow the marginalised section to join the banking system, but these are not enough. Instead, it has made money transfer, pay order and other transactions expensive. Each of these affects the growth of the economy and it appears that while the RBI wants to advise others it is not keen on implementing it for itself.

Expensive banking and other operations have not only increased the cost of business operations but have also resulted in large funds being diverted from the banking system. Contrary to popular belief, this is not black money, but has the potential to siphon those funds from fiscal channels. Undoubtedly, there is need for some policy correction but nobody seems to be interested.

This, one can say safely, is one of the main reasons for the poor liquidity of banks. It requires almost Rs 450 lakh crore of recapitalisation. If the policy framework is not simplified, banking services not made affordable, repayments not streamlined, then the Indian economy may once again be heading for the historical Hindu rate of two to three per cent growth in not so distant a future.

This apart, the monetary policy analysis has also come down heavily on the populist policies such as MNREGA. It has found that though it is providing cash to the workforce, it is creating a class of people who are not contributing to society and is increasing the Government’s fiscal deficit. On the one hand it is increasing the cost of wages and on the other creating shortage of workforce in vast areas, particularly rural India.

Such schemes, the monetary policy notes, are creating higher wages all over. This is turn is triggering a cyclical problem as higher wages are raising production cost and further inflation. The apprehension expressed is that if inflation continues in double digit, then all the projections for growth would remain on paper, unachievable. Further, it suggests that this is not the time to put in money into failing public sector undertakings and the Government must keep a check on it.

In all, the problems posed are many, the solutions simple but the Government unfortunately lacks the political will it should have. The monetary policy statement in toto calls for an easing of the environment. Will it, or else growth would remain a hollow word and Finance Minister Pranab Mukherjee’s effort to add to his coffers would end up in a dream.

The future looks dreadful. Further loss of Government revenue would mean higher borrowings. It would create more problems for governance and liquidity. If the country has to progress it must take decisions as the monetary policy suggests, simplifying procedures and creating, enabling and enticing an atmosphere for both industry and business. —INFA.