India markets closed

Recession isn’t here, but the slowdown is

Recession, slowdown, MSME, Indian economy, economy news, GST 

In the ongoing political to and fro, it is necessary to clear the air on one issue: Is the Indian economy in a recession? Fortunately, an unambiguous answer is possible: No. The most acceptable definition, of recession, is that it occurs when both, prices and output, fall for two successive quarters or more. For the Indian economy, while the data for prices gives a mixed picture, GDP growth rate of 5% implies that output cannot be falling across the board. Hence, the classic definition does not apply.

The second question is more difficult to answer, namely, is India heading towards a recession? As far, I am aware a general recession is almost impossible to predict. As India doesn't have a forthcoming database, one can only look at a number of possibilities.

The media has highlighted that the plight of the auto industry and the textile industry (in particular, MSMEs) needs some attention. It is difficult to dismiss the argument that automobile manufacturers are suffering from a combination of taxes (high GST) and technological issues (switch from BSIV to BSVI). However, structural factors apart there seems to be a general demand slump, as the fall in sales is also seen for commercial transport vehicles (example, Tata Motors & Leyland). The recent concessions on lower corporate taxes rates may boost profitability of the auto companies, this might only lead to a reduction in inventories as the demand problem remains unaddressed.

For the textile sector, MSMEs in particular, recent measures to improve liquidity are important as the principal problem is a mismatch between cash outflow (GST payments) and cash inflow (GST refund and receivables from vendors). The additional liquidity now being pushed should solve this problem.

Finally, consider the real estate sector, which has been in the doldrums since demonetisation. It is clear that eliminating even the stock of existing houses seems difficult given the high cost of purchase. The only way, then, to end the woes is to urgently reduce the cost to buyers in the form of EMIs (interest rates) and repayment periods. In addition, states must be convinced to reduce the stamp duty on property registration.

In the absence of reliable data on employment, structural problems are important determinants of the current slowdown. Since, structural changes (including technology-driven ones) are driven by market conditions, both internal and external, changes in government administrative procedures can only serve as a temporary palliative and cannot address long-term demand issues.

The main issue, thus, is the link between the slowdown in growth to employment, especially, in the MSMEs. However, there is another possibility, highlighted by some writers and which tends to be ignored: the emergence of a "gig" economy. It is, not clear that these "gig economy" workers are a part of frictional or involuntary employment. Aggregators like Amazon, etc. are particularly important as they aggregate production across the country and across the sectors: manufacturing becomes as geographically diversified as services. Since aggregators reduce the uncertainties of sales and marketing it is not clear how many new small producers have joined the production chain.

The real worry is not that India is in a recession today, but the declining growth rate over the last decade or so implies that producers are not likely to consider new investments in capacity. It is important here to stress the role of the external sector. Openness, total value of exports and imports of the economy as a share of GDP, lies between 45-50%. In other words, one out of every two transactions, in the real economy, is a trade transaction. Here, India has been impacted by the slowdown in world trade since about 2009. It is also well known that physical exports have remained roughly unchanged since 2012. It is seen that as exports fall or remain unchanged, imports tend to follow, and the trade sectors tend to shrink. In other words, if about 45-50% of the GDP is stagnant it is impossible that the remaining will generate higher growth rates. The only solution is a dramatic change in competitiveness of Indian exports over time. The recent changes in the corporate tax rates may be helpful though it is unlikely that tax cuts alone will induce new FDI. Stability of policy is probably a more important determinant. This issue deserves a lot of attention by policymakers.

The external sector is particularly worrying as the limited growth in world GDP (around 1-2%) is currently being largely driven by good news from the USA. It is ominous that the only growth leader in Europe, Germany, has recently seen GDP skip into negative territory. The current mood of protectionism is also driven by every country's need to promote domestic employment. Strengthening multilateralism against the push for protectionism seems to be the only answer.

As a general method of increase in demand, expansion of infrastructure like roads, etc. is probably most effective. The government's commitment to this is welcome. The question is, where does the money come from? An old instrument, tax-free infrastructure bonds, seems like a good idea. This does of course imply sacrificing future tax incomes. However, as Keynes argued, this is an effective measure. While the recent tax reforms are important to raise the "feel good" factor, only income expansion, both in the external and internal sectors, seems to be the right way forward. However, increased competitiveness via technology is a long-term imperative. There are no shortcuts.

Author is Director, IIFT. Views are personal.