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There is growth amidst turbulence

By Subir Gokarn
March 10, 2009 14:29 IST
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It is now quite clear that the high growth phase of 2003-08 was the outcome of a virtuous combination of global and domestic factors. I discussed the domestic factors in my previous column (Re-visiting growth drivers, February 23).

In this piece, I lay out a simple framework that might be useful in identifying possible growth trajectories and the factors that would determine which of them will materialise.

The picture displays the framework. The horizontal axis represents the domestic environment, in a range from highly unfavourable to highly favourable.

Likewise, the vertical axis represents the global environment, also in the range from highly unfavourable to highly favourable. It is convenient to divide the space into four quadrants, with each quadrant representing a particular set of trajectories.

In the middle is a 'neutral' zone, in which both domestic and global factors are neither favourable nor unfavourable. This represents a long-term average or trend rate of growth, in which the positive and negative influences of the two sets of factors are averaged out.

Each quadrant then represents a scenario, reflecting a particular configuration of global and domestic factors.

Under current circumstances, I believe that 7 per cent is a reasonable estimate for the neutral rate. Having placed that number in the centre of the picture, there is a growth rate number placed in each of the quadrants, representing the expected growth rate in that particular scenario.

Let's look at the current scenario and the possible transitions from it. The economy is currently in the bottom left scenario, which it is appropriate to label the 'Run Aground'. The expected rate in this scenario is 6 per cent, but the scenario actually accommodates an even lower rate.

The upper right quadrant, reflecting the best possible configuration of global and domestic factors reflects the scenario prevailing during the 2003-08 period could be called the "Full Speed Ahead". Here, the expected growth rate is 9 per cent.

The current year, 2008-09, saw a rather abrupt transition from the Full Speed Ahead to the Run Aground. Given a virtually unanimous view that the global economy will be extremely sluggish, a rapid transition back to the Stretch zone is virtually impossible.

For that matter, so is a vertical climb to the upper left quadrant, which is labelled 'Rising Tide'. This scenario may not be particularly relevant in the immediate future, but comes into the reckoning over a slightly longer horizon.

Regardless of what we do, governments and central banks around the world are doing everything within their capabilities to deal with the crisis. If these measures work, accelerating global growth after 2009, the Indian economy will obviously benefit.

I put the expected growth rate in this scenario at 7 per cent, equal to the neutral rate, but, obviously, entirely out of our control and dependent on favourable global circumstances.

This leaves the bottom right scenario, which is labelled 'Self-Propulsion'. This envisages the use of domestic instruments and capabilities to accelerate growth even as the global conditions remain unfavourable.

I see the expected rate of growth in this scenario as being 8 per cent, a premium that can be attributed to the still many unexploited opportunities to enhance domestic demand and increase productivity, both of which will contribute to faster growth.

As I argued in my previous column, there is no great secret to accelerating growth with the use of essentially domestic forces. The last time we moved from Run Aground to Self-Propulsion, it was on the back of falling interest rates, tax incentives for housing and investment in highways.

The room for further dividends from sharp reductions in interest rates, for example, may no longer be there. However, this does not mean that the overall growth impact of further reforms and strategic public spending programmes along those lines will be any less significant.

Realistically, we cannot expect the transition out of Run Aground to Self-Propulsion to happen in the space of one year. To reach the expected growth rate of 8 per cent in the latter scenario from the 6 per cent in the former will take some time.

The kinds of reform and public expenditure initiatives required to make this transition will undoubtedly take some time to make an impact. But, at least, this is a process over which we have a degree of control and, therefore, one which we can monitor and fine-tune as it progresses.

Even if the full payoff is achieved with a lag, it is better than waiting for the Rising Tide in the form of a return to a favourable global environment. In fact, this reasoning does not in any way deny the economy the benefits of a global recovery. From Self-Propulsion to Full Speed Ahead is a smooth transition, as we saw during the 2003-08 period.

The point that I want to emphasize is that, while in the best case scenario, global and domestic factors combine to provide great momentum to the economy, there is also a degree of substitutability between them in alternative scenarios.

Specifically, if the contribution of global factors dwindles and is likely to remain negligible for a while, it is absolutely necessary that we explore all ways to activate domestic factors that will take up the slack. This may not lead us to the best possible outcome, but it can generate reasonable ones, which will accommodate a balance between various stakeholders' interests.

It is most important that we recognise that the path to these 'desirable, if not optimal' scenarios is to persist with the established reform agenda, not to abandon it.

As tempting as it may be to interpret the current global meltdown as a death sentence for the reform strategy that we have been implementing, this would be completely self-defeating. It would work towards keeping the economy in the Run Aground scenario, waiting for a global recovery to provide some growth momentum but then leaving us completely vulnerable to the next global downturn.

However, equally, it is time to recognise that there are elements of the reform strategy that have significantly increased risksĀ -- to the economy, businesses and householdsĀ -- for which mitigating measures are non-existent or inadequate.

The strategy may require re-design, both to have a greater impact on growth and to more efficiently mitigate risks.

Essentially, even as we worry about the threats of greater global integration of the Indian economy, we must recognise that we can neutralise them by more effective use of our domestic capacities. We can chart our course and stay on it even in rough global seas.

The author is Chief Economist, Standard & Poor's Asia-Pacific. Views are personal

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