The Indian monsoons have arrived and when it rains, there is a deluge. However, well before the monsoons kept their date with India, a shower of bad fortune had drenched the Indian economy - everything from physical tremors and the devastating earthquake in Gujarat to manmade convulsions in the stock market arising from human greed. At the same time, it's not all gloom and doom. In particular, the annual budget and trade policies announced in February-March contained far-reaching policy changes that have been applauded by most analysts and economists.
The economy continues to grow at a rate that is relatively high by global standards. GDP expanded by 6% during 2000/2001. However, GDP growth has declined over the past two years (in 1998/99, growth was 6.6%), though the drop has been small. The slackening of industrial growth is more worrisome. Industrial output rose by 5.1% from April 2000 to February 2001, which is significantly lower than the 6.5% growth achieved in 1999/2000, and well below potential (for instance, in 1995/96, industrial growth was as high as 13%). Regarding the reasons for this trend, Hemalatha Rao, who heads the economics unit at the Institute for Social and Economic Change (ISEC), points out that with import liberalisation leading to increased imports of industrial components, "many Indian manufacturing firms have become trading units" since they are unable to compete. "Shortages in power and other infrastructure have also been a big constraint for Indian industry," she says. Other constraints highlighted by economists include high interest rates and adjustment lags in industrial restructuring. India's external economic position remains comfortable. A major reason has been buoyant exports. Exports expanded by a hefty 20% (in US$ terms) from April 2000 to February 2001. However, analysts are concerned about the adverse impact of the slowdown in the United States economy on Indian exports. In particular, the Indian computer software sector, which had a dream run in earning foreign exchange in the past decade, is heavily dependent on the US market.
While trends in the "real" economy have been satisfactory, though mixed, those in the capital market have worried policy makers and investors no end. The shenanigans of stockbrokers and colluding companies and banks have meant excessive speculation and wildly oscillating share prices - with little correlation to economic trends. LC Gupta, director of the Society for Capital Market Research and Development, says: "The ratio of trading volume to market capitalisation in India is three times the ratio in the US and UK. This indicates that the speculative trading volume is far too high. Moreover, this speculation has degenerated into market manipulation by large market operators and syndicates."
Indeed, Indian stock markets have been notorious for price rigging, insider trading and other malpractices. With the Securities and Exchange Board of India, the regulatory watchdog, implementing capital market reforms, policy makers were under the impression that such abuses had been greatly reduced. Unfortunately, recent events in the bourses have belied such hopes. These include the alleged misuse of bank funds for speculative share transactions by a leading stockbroker (Ketan Parekh), insider trading in several shares, and evidence that the President of the Bombay stock exchange (BSE) wrongly accessed internal surveillance information for personal gain. Not surprisingly, the stock market has crashed. The BSE Sensitive Index of share prices plummeted from 5,001 at end-March 2000 to around 3,576 in mid-May. The government now has its hands full in restoring normalcy in the capital market and reviving investor confidence.
Turbulence in the political theatre has added to the government's woes. Much of the credit for this goes to an Indian dotcom, Tehelka.com, which kept to the meaning of its name ("commotion") by making public an exposé of rampant corruption relating to defence contracts. In a daring sting operation, Tehelka's correspondents, posing as defence equipment dealers, recorded with hidden videocameras, the demands for slush money from senior defence personnel and politicians. Not surprisingly, with the opposition parties baying for blood, there has been considerable embarrassment for the government. The Defence Minister has resigned and one party in the coalition government has moved out. In India, as elsewhere, politics influences economic policy-making. While the government faces no immediate threat, analysts fear that the instability created by the Tehelka episode might delay the adoption of some politically sensitive economic reforms.
While presenting the budget in February, the Finance Minister, Yashwant Sinha, emphasised that this was "a budget for carrying forward the second generation of economic reforms". He stuck to his word by proposing some policy changes that New Delhi had kept on the backburner because of their politically sensitive nature. Chief among these has been labour market reforms.
It is well known that Indian legislation has led to a rigid labour market, with firms finding it extremely difficult to "hire and fire" labour in response to business conditions. At present, firms employing more than 100 workers need to obtain prior approval from the government for retrenching labour. Sinha proposed that this legislation would apply only to firms with more than 1,000 workers. At the same time, the separation compensation would be increased from 15 days to 45 days for every completed year of service to act as a deterrent to employers to lay off workers "in a routine manner".
SK Shanthi, an economist at the Institute for Financial Management & Research, welcomes the labour market reforms since "the needs of a market economy and the fairly leftist orientation that we have given to the labour sector so far may not coexist peacefully". However, she says that "labourers also require their safety net" and feels that the Finance Minister has struck a good balance with his proposal relating to separation compensation.
Apart from labour market reforms, Sinha's budget speech included a number of other policy proposals that promise to accelerate economic growth and improve the business environment. For instance, he proposed various measures to phase out or reduce price or distribution controls in four key sectors - petroleum, fertiliser, sugar and drugs. These have remained for many years because of political or equity reasons, though they are inefficient and create economic distortions. Inadequate infrastructure has been a chronic problem affecting economic growth. Hence, not surprisingly, Sinha announced several tax incentives and measures to enhance infrastructural investments.
During the past few years, partly under World Trade Organisation (WTO) pressure, India has been phasing out the inefficient and comprehensive system of quantitative restrictions (QRs) on imports that had always been a striking feature of import policy. This process of import liberalisation was completed in the Exim policy announced by the Commerce Minister, Murasoli Maran, in March. In his speech, Maran said: "All over the world, the only countries that are using QRs are Bangladesh, Pakistan, Sri Lanka and Tunisia. To get out of this league and join the other countries of the world, we are removing QRs for the remaining 715 items, bidding goodbye to the balance of 'Quota Raj'."
While Indian consumers and foreign sellers are delighted with the dismantling of QRs, the key issue is the ability of Indian producers, including small- to medium-sized enterprises, to withstand global competition though India has adequate safeguards such as tariff adjustment and anti-dumping duties (besides relatively high import duty levels).
But S Ganesh, the director of Inter-Strat, which advises firms on marketing strategy, says: "While the removal of remaining QRs will result in a surge in imports, for example in foods and beverages, these will be in the higher-end segments and may not have much impact on market shares of Indian companies taking the totality of the market."