Q&A on Economy & Trade

 Interview given to Bijoy Kumar Sing of PTI on August, 9, 2018:

Q1: What is you assessment of current macroeconomic situation in India? Some experts believe that  the macro situation is becoming more challenging in the last year of Modi  government? FDI growth hits 5-year low in 2017-18, rupee has depreciated, oil prices and inflation are rising? 

A1: Economic growth, which has been subject to many ups and downs over the past seven years, seems to be back on a recovery path. The most important indicator of this is the rate of growth of real fixed investment, an essential element of sustained, sustainable growth. On the external front some challenges such as the threat of rising interest rates and commodity prices are the negative face of a rise in developed country growth. So they are partly offsetting. The rise in oil prices due to Geopolitical factors, like Iran sanctions are however a concern.  The US-China Tariff war however provides an opportunity to increase India’s exports to the USA and to attract, labor intensive elements of the global supply chain unsettled by higher “China risk”, to India. Domestically the main risk to macro stability, is politically driven Govt consumption spending at the cost of investment and fiscal prudence. If this temptation is resisted, the country will be back on a firm 7.5% plus growth track. 

    Q2: India has emerged as the sixth largest economy replacing France? How do you see this development?

A2: in a series of papers since 2004, I had predicted the rise of China and India as economic powers (https://sites.google.com/site/drarvindvirmani/india-great-power ). India will become the fifth largest economy in 2018 and the 3rd largest, after USA &  China, by 2025 (in current US dollars). According to the index I developed for making these projections, VIPP, India will become a great power by ~ 2035. It is very important for our elites to understand both the strengths and the limitations of these developments. We must start planning our global interactions and acting like a leading power, without ignorantly imagining that we are already a Great Power (that is 20yrs away). 

    Q3: The US actions on trade have emerged as the biggest worry for global growth. What will be impact of rising trade tensions on Indian economy and what should be India's strategy?

A3: We must distinguish between US trade actions against market economies like EU, Canada, Mexico and other market economies from those against non-market China. The conventional wisdom that everyone will loose from a trade war applies to the former, but not to the latter. A single party dictatorship has dozens of ways of imposing non-tariff barriers on imports & foreign investment, that free open democracies, run by rule of law, cannot even imagine. The US-China tariff war will have some short term disruptive effects on global economy, but provides great opportunity for India to attract Labour intensive, export oriented and Indian market oriented investment from those currently located in China. The Indian Govt, private industry and PSUs must make an effort to attract them to India.

    Q4: The general elections are less than a year away and there is a possibility of populist policies being announced by both the central and state governments. Is there a possibility of slippages in the fiscal deficit?

A4: Historically every Govt pushes up what are referred to as populist expenditure in the year or so leading up to the election. The test is if they keep it modest and don’t disturb the trend in fiscal responsibility. There is therefore always a risk of fiscal slippage. At State level, this is partly linked to losses incurred by State electricity distribution. 

    Q5: Prime Minister Narendra Modi had said that demonetisation will reduce generation of black money in India. But money deposited by Indian's in Swiss banks rose by 50 per cent last year. So, how do you read the effects of demonetisation nearly two years later.

A5: The data that I have seen shows that money deposited by Indians in Swiss banks has been on and remains on a downtrend. As as demonetization, I had written the week after demonetization that it would reduce the growth rate of the economy by about 0.5-0.6% in the 6 months following the demonetization or about 1% for the year as whole (assuming the recovery takes a year). My subsequent estimates show a loss of 1.2% of GDP in the 12 months following demonetization. On the positive side I had predicted an increase in income tax compliance, which seems to be happening (as per limited data available). The effect on black money in real estate and elsewhere did take place, but seems to have been less permanent. 

    Q6: There is common perception that departures of foreign' economic advisers (Raghuram Rajan, Arvind Panagariya and Arvind Subramanian) underline the Modi administration's rejection of free trade and open market approaches to policy in favor of protecting domestic industries and farmers. Your comments.

A6: Since I retired from the post of Chief Economic Advisor at the end of 2009, my successors as CEA (Kaushik Basu, RaghuRam Rajan and Arvind Subramanian) have all returned to jobs abroad, after completing their Indian tenure. The same happened in the case of Arvind Panagriya of NIti. In my judgement this is not primarily due to any disagreement on free trade and open markets, which is indeed one of the weak points of the current Govt (I have argued for trade reform in the, Bibek Debroy edited, book, “India at 70, Modi @3.5 “ )

    Q7: Recently Commerce Minister Suresh Prabhu had said that 40 per cent of India's GDP will come from exports by 2025, and India's economy will be a USD 5 trillion economy 2025. At present, exports constitute only 18 per cent of USD 2.6 trillion GDP. Do you agree with Prabhu?

A7: An open economy is one of the drivers of growth in a connected and liberal world, which is why I have continuously argued for reform and liberalization of EXIM policy(agriculture) and of import tariffs and export duties. I continue to do so. However, given the anti- free trade sentiments sweeping the world, we have to be a little more selective and cautious in dealing with non-market, non democratic countries which find it easy to follow non-transparent policies that harm our interests. This poses a challenge for instance in concluding the RECEP agreement.

PM Modi's Foreign Policy: An Update

  A recent Policy paper (WsPP 4/2015) analyses the changes in foreign policy under PM Modi’s government. Here are some excerpts from this paper giving a flavor of the issues and arguments [i] :

     The most fundamental change in Foreign policy, is the one referred to in October 2014 as “India First.” [ii]   The choice of words was perhaps not the most diplomatic, but the implications remain the same and are amply supported by subsequent developments.  One of the achievements of the previous NSA was to bring out a foreign policy paper titled “Non-alignment 2.0” i.e. the 21^st century version of the post War (WW II) foreign policy of “non-alignment” between the two poles of that time, USA and USSR.  By definition, Non-alignment starts with a definition of the “poles” or countries and their policies, between which one is non-aligned.   “India first” turns this approach on its head, by defining India itself as one of the poles, with a clear set of domestic and international objectives and expectations from other countries.  Instead of looking first at what other country’s objectives and expectations are, and  weaving our way through the contradictory objectives of other poles, we as a fixed pole, first define our own objectives and our expectations from other countries, including the “poles.” We then try to convince them to support our objectives, making whatever bargains necessary for achieving these objectives. 

     An essential element of this changed perspective, is the new government’s “pragmatic actions and ‘view of the world,’ ”  Therefore there has been a search for deals with every pole to further India’s  “primary objective of closing the economic and technological gap and building national power, in a pragmatic forward looking manner jettisoning ideological blinkers and minimizing historical baggage(Oct2014).”  This is neither ‘non-alignment 3.0’ nor ‘multi-alignment’, but the first step in the “Multipolar transition to a Tri-polar world” in which India will be one of the three leading poles by 2020, albeit the weakest of the three.[iii]  India in 2013 ranked third behind USA and China in terms of size of GDP at PPP and tenth behind Russia (9^th) in terms of current dollar GDP. Its economic power, as measured by the VIPP index of potential power, was six.[iv] Author’s projections indicate that India’s rank will rise to number three by 2020. The Modi government’s aspirations of India becoming a ‘leading power’ not just a ‘balancing power,’” as outlined by the foreign secretary, reveals an appreciation of the emerging possibilities.

   Some analysts have called India’s new foreign policy approach as ‘multi-alignment.” But this is a misnomer, because India is not aligning either with the sole super power USA or with the fast rising great power China, nor with the Great powers of the past (Japan, Germany, Russia, France, UK).  It’s a “multipolar transition” because the relative position of these powers, with different strengths and weakness, is undergoing rapid change.  India is on the way to equaling and/or excelling them in certain dimensions, while still being in a position to benefit from their historical strengths.   This uncertain world, with the old equilibrium slowly crumbling, but a new one could take two decades to emerge, can be characterized as a multipolar transition.

   In October 2014, there were five areas in which I saw an emerging change in foreign policy: "The centrality of economic & technological development, the integration of domestic and foreign policy with respect to this objective, the emphasis on “national power” including “military power” and “Soft power” and a reduction in self-imposed constraints on actions that third counties may construe as inimical to their interests.”[v] These changes are now clearly underway.

  The policy paper argues that, (a)  Relations with USA have taken a decisive strategic upswing, but could grow even faster if the USA understood India’s limitations of low per capita income and high poverty and acted with more generosity, given these limitations. (b) That India is moving towards a policy of “symmetry” viz China, and (c) India is adopting a two pronged strategy toward Pakistan, based on a hard headed understanding of the deep state and its actions.  Further details can be seen in the policy paper (WsPP 4/2015).

 

   “The PM Modi led Indian government is changing the emphasis of India’s Foreign and National security policies. Elements of this change in approach are already visible. These involve a clearer definition of Indian interests (“India First”) in terms of economic and technological development, a greater focus on these goals in foreign policy and a consequent integration of domestic and foreign policies. Other changes involve a greater focus on the development of national power, in particular an enhancement of the somewhat neglected element of military power, its broader definition to include asymmetric warfare of which State financed-directed non-state actors are a dangerous part, and a jettisoning of self-imposed constraints of ideology and misplaced fear of offending other countries who display no such squeamishness in their behavior.   Overall a much more confident, credible and effective national security-foreign policy is predicted to emerge over the next five years.” [vi]  These have been rapidly operationalized over the year.

   A philosophical under pining cum broader direction for India’s new foreign policy is also emerging.  This is implicit in the government’s formulation of India going from being a “balancing power to a “leading power.”  The government plans to pursue a policy that accelerates the development of India to the position of the third most powerful economy in the World. It will also attempt to raise India’s rank in  strategic-military power, an effort that is more difficult, time consuming and costly, and therefore can benefit greatly from help from super power USA and other historical Great powers like Russia, France, UK, Japan and Germany.[vii]

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[i] Virmani, Arvind, “Foreign Policy Under PM Modi”, Policy Paper No. 4/2015, New Delhi, May 2015. https://sites.google.com/site/drarvindvirmani/policy-papers

[ii] “Foreign Policy under Modi: http://dravirmani.blogspot.in/2014/10/indian-foreign-policy-under-modi.html

[iii]  Virmani, Arvind, "A Tripolar Century: USA, China and India," Working Paper No. 160, ICRIER, March, 2005. http://www.icrier.org/page.asp?MenuID=24&SubCatId=175&SubSubCatId=233. And other papers at https://sites.google.com/site/drarvindvirmani/india-great-power .

[iv] See for instance, Virmani, Arvind, "Fall and Rise of India", Working paper No. WsWp 1/2013, October 2013. https://docs.google.com/viewer?a=v&pid=sites&srcid=ZGVmYXVsdGRvbWFpbnxkcmFydmluZHZpcm1hbml8Z3g6M2E0ZTNiNmVhYjA3MTM1Mw and other papers at  https://sites.google.com/site/drarvindvirmani/india-great-power .

[v] Foot note 1 op cit.

[vi] Foot note 1 op cit.

[vii] For details see policy paper at https://sites.google.com/site/drarvindvirmani/policy-papers