Don't Count India Out Just Yet - NYTimes.com
News out of India as of late has been either bad or dreadful. Recently released statistics confirm that growth has been even lower than forecast. Most recently, poor jobs numbers confirm that the economy is in the doldrums and a report from the country's Planning Commission shows that India is lagging in a range of social and economic indicators linked to the United Nations' Millennium Development Goals.
While there is room for debate, most analysts contend that the current Indian government's repeated failures to implement much needed economic reforms lie at the heart of the burgeoning economic malaise. In a recent news analysis piece in The Financial Times, journalist James Crabtree bluntly lays the blame on a "toxic mixture of government inaction and business caution." What is undeniable is that the souring of the India story has global economic, financial and political implications, with observers and investors, both domestic and foreign, warning that things could get worse before they get better.
Here are the facts right now: in the fiscal year that just ended the economy grew at 6.5 percent, sharply down from 8.4 percent a year earlier. The investment bank Morgan Stanley has recently downgraded its forecast for 2013 to 5.7 percent, in line with other major institutions.
So what do these numbers really mean, and how worried should we be about India's long-term prospects?
As a matter of basic macroeconomics, the growth rate in any given year can be broken – or "decomposed," in statistical jargon – into a long-term trend and a transitory component.
The trend represents the growth rate the economy "should" enjoy based on underlying fundamentals like savings and investment as well as the efficiency with which capital is used, along with the productivity-enhancing effects of new technology (whether indigenous or imported).
The transitory component, in turn, captures the effects of the business cycle, both domestic and global, climatic factors (like whether the monsoon rains were better or worse than average), and anything else that represents a temporary deviation from the long-term trend, such as an unexplained worsening in consumer or investor confidence.
As I argued last fall in India Ink, based on the data we then had, India's trend rate of growth should be around 8.75 percent, based on the underlying fundamentals of savings and investment as well as the efficiency with which capital is used.
So while the performance of two years ago at 8.4 percent is consistent with the economy being at or near its long-term trend, this past year's growth rate of 6.5 percent, a full two percentage points lower, raises the crucial question: Can this be reckoned to be caused by transitory factors that could be expected to disappear, or, more ominously, has India settled into a new and lower long-term trend?
As a recent roundup of economic articles in India Ink suggests, most commentators fall on the pessimistic, rather than the optimistic, side of the ledger.
Representative of the zeitgeist is a recent blog post by Shanmuganathan Nagasundaram, an economist and investment adviser, who argues that 5 percent growth is the "new normal." He bases this gloomy assessment on projections for the major sectoral components of G.D.P. and trends in global markets that are expected to have a depressing effect on the Indian economy.
Unfortunately, Mr. Nagasundaram's projections seem based more on his disapproval of the Indian government's economic policy stance than a persuasive statistical analysis. He tips his hand when he writes: "For India to achieve nirvana-like higher growth rates, the economic team has to put its faith in capitalism"¦rather than the interventionist/government-knows-best approach they have adopted." Whether one agrees with him or not, this is ideology, not economics.
In an analysis piece in the magazine Frontline, the economist C.P. Chandrasekhar is more balanced, and marshals a multitude of facts and figures, but he too offers an impressionistic rather than a rigorously statistical take. And again he reveals his ideological stance when he advocates "controls on the movement of footloose and speculative capital" as an essential element in restoring high growth.
To come clean on my own hunch, I would argue that, even though things have worsened since last year, the long-term growth rate, based on the underlying fundamentals of savings and investment, cannot by any reasonable accounting be much below 7 percent.
Here's the reason: the falloff in investment from a high of 35 to 36 percent a few years ago (which translates into 8.75 percent growth) toward 30 percent is a proximate cause of the growth slowdown, but it still suggests that India's long term growth potential is around 7.5 percent. In a recent op-ed column, Ashutosh Varshney, a professor of political science at Brown, draws on this macroeconomic relationship between investment and growth in coming to a nuanced view of the current situation, although he notes the dropoff in the investment rate with alarm.
The truth is that a neutral parsing of the data, shorn of a preconceived ideological view, cannot conclusively tell us whether the country is now headed for a new and lower growth path of 5 percent, or rather if the poor performance of the past year and a half is an aberration from a healthier long-term trend of 7 to 8 percent. A year or two of data is simply not enough to make a statistically definitive judgement on the matter. Anyone who claims otherwise is practising voodoo economics.
At least one commentator agrees with me on this last point. In an op-ed column in the newspaper DNA, Parsa Venkateshwar Rao Jr. writes: "The temptation to pronounce the end of [the] India growth story amounts to jumping to conclusions based on inconclusive data and [a] changing situation."
I posed to Mr. Varshney whether he believed that India's long-term growth prospects were still good. He told me via e-mail: "I do believe that we will be back to 7 percent, but the government ought not be complacent that India is on some sort of autopilot for a 7 percent growth rate."
That's exactly the right balance between optimism and pessimism that recent developments demand.