by Krishnakumar S.
In the background of the falling rupee, there has been a series of articles in the financial press by economists and policy-advisers of the neoliberal persuasion, making a strong case for a further dose of liberalisation. Even while institutions and policy-making centres in the developed world have abandoned the palliatives based on the Washington Consensus, one is at a loss to understand as to why the Indian liberals still continue to have infinite faith in the capacity of the markets to deliver.
The standard neoliberal response, in the context of the falling rupee, agrees to the contention that the decline in the value of the rupee has been due to matters external like the tightening of the US monetary policy, switch away from quantitiative easing as well as shift of the asset markets in favour of the dollar vis-à-vis gold, and suggests that the solution to the same lies in the reform of the domestic economic policy establishment. This quickfix solution to the situation heavily counts on the yielding to the goodwill of the highly speculative and volatile international capital markets.
The current bout of depreciation seems to find favour with one and all in the neoliberal circles. Arguing that the inflation in our country in the recent past has been far higher compared to those in the advanced countries, it is argued that the depreciation, through its impact on the real exchange rate of the country, would result in the increased competiveness of the exports of the country, thus improving our current account. Not to speak of the gloom which pervades the global economy, this ignores the fact that the countries of different emerging market economies have gone for a simultaneous depreciation of their currencies, bringing us to the typical beggar-thy-neighbour sort of situation of the interwar years. Worse, given the highly inelastic nature of our imports, particularly POL (petroleum) imports, not only would the current account not improve, but the same would have a highly inflationary impact on the economy, given that the changes in petroleum prices are passed on to the final consumer. In fact, this neoliberal optimism, based on the textbook assumptions that the Marshall Lerner conditions1 would be favourable, is purely misplaced, at least for our country in the current global environment.
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In the typical one-size-fits-all sort of standard prescription, it is further argued that the fiscal deficit should be reined in to reduce to its spillover on the current account deficit. Knowing too well that it is the burgeoning gold imports as well as the POL imports which have been responsible for the growing current account deficit, and the same has much to do with matters other than those of the government and its expenditure, it seems that these policy-advisers are reading too much into the standard national income identity. This link between the fiscal deficit and current account has been contested by a number of empirical studies in the Indian economy, the last one being an ICRA study.2 Moreover, it is a pretty plain fact that exogenous factors like the increase in the price of oil as well as growing imports of gold into the country have been contributing more to the current account deficit rather than any fiscal excesses of the government. Worse, when the economy is increasingly turning out to be demand constrained, with falling investment ratios, would it be warranted to go steadfastly with the project of fiscal correction as these advisors suggest?
The dream run of high rates of growth which India had in the five years prior the global financial crisis was purely because of the hugely favourable conditions of global liquidity in the international economy and the more-than-favourable international trade environment, which India could reap the benefits of.3 It was not because of any ‘less' reform or ‘more' reform that the foreign capital share in the country rose upto around 10 per cent of the GDP during this period. And, therefore too, to make a case that a further dose of liberalisation from rail to coal and hike in the FDI cap in certain sectors would prove to be the magic wand and the same would make us back the darling of international capital, is too presumptuous.
The investment ratios, which were stagnant through the nineties, shot up to more than 35 per cent in the course of this period of 2003-08, only to retract back to the original levels in the backdrop of the crisis. The high investment ratios made possible by the debt leveraged investment in the above period due to the easy availability of credit, not just domestically but also internationally, are no more true. Hence, to more than make up for the decrease in the investment ratio, it would be more than warranted for the government at this juncture to make a big push of public investment rather than go in the for the process of fiscal squeeze. The ill-effects of the strategy of fiscal squeeze pursued in the previous two Budgets have already been borne by the economy, with the lacklustre performance of the economy in general, and the manufacturing sector in particular. To expect that the debt-leveraged hike in the private corporate investment, which occurred in the 2003-08 period, would make a reappearance in case the government goes for market-friendly measures in the name of allocative efficiency, is just a false hope. The balance-sheet of pressures confronted by many in the private corporate sector, unable to meet the repayments on the FCCB front, for they have even not hedged against the plausible depreciation, is now even more a growing concern as the rupee touches 60 to a dollar. Given the extremely high levels to which public investment can crowd in private investment in the Indian economy, any suggestion to rein in the fiscal system being suggested as a palliative would prove to be dangerous for the economy.
Even when one would agree to the general suggestion that the nominal interest rate should be reduced, and that the nominal interest rate differentials with the rest of the world should be reduced, given the highly interdependent nature of international capital markets, won't the City and Wall Street be waiting in the wings for such a moment to withdraw capital from our country? In fact, the costs of interdependence are showing up in the form of increasingly shrinking policy-space in the developing world. Indeed, it is curious that even while the policy establishment from the White House to IMF have lost their faith in the logic of the infallibility of the markets and the textbook fiction of the efficiency of competitive markets, and are making a case for capital controls, our liberal policy-makers have no love lost for the markets.
Footnotes
1. The Marshall Lerner conditions require that the sum of the elasticities of exports and imports should be greater than one for depreciation to have a favourable impact on the current account. With highly inelastic imports like oil, this does not hold true for India.
2. See study by Suchismita Bose and Sudpita Jha on “India's Twin Deficits” in Money and Finance, 2012.
3.For an exhaustive analysis of the period see the recent article “India's Dream Run 2003-08” by R. Nagaraj in EPW, May 18, 2013.
Krishnakumar S. is an Assistant Professor, Department of Economics, Sri Venkateswara College, University of Delhi.