Signs of a 'turnaround'

Following two years of economic growth below five percent, India's GDP should grow by more than 6.5 percent annually in the coming years, according to a survey published by the Organization for Economic Cooperation and Development (OECD) on Wednesday, November 19.

The Paris-based think-tank revised its previous growth forecast of 5.7 percent for Asia's third largest economy in 2015-16. However, new reforms, some of which are included in the package presented by Prime Minister Narendra Modi, need to be implemented to put the country on a path to strong, sustainable and inclusive growth, the report added.

Over the past few months, PM Modi has been announcing a string of reforms, including plans to overhaul the country's labor laws, open India's coal industry to private companies, free diesel prices from state control, and make scrutiny of factories transparent to curb harassment by government inspectors. The Hindu nationalist leader - who swept to power with his BJP party in a landslide election win in May - was elected on promises to revitalize the Indian economy, which has been suffering from stagflation; a combination of slow economic growth, soaring inflation and high unemployment.

In a DW interview, OECD Chief Economist Catherine Mann says many of the new initiatives by the BJP-led government such as "Make in India" go in the right direction, and are consistent with OECD views on the need for structural reform. Nevertheless, more should be done to implement these initiatives in practice, she adds.

DW: What impact are Narendra Modi's recent reforms likely to have on the Indian economy?

Catherine Mann: The appointment of the new government under Modi's leadership has had a positive confidence effect on the Indian economy. Many of the new initiatives—like "Make in India" or "Minimum government, maximum governance," to name just a few—go in the right direction, and are consistent with OECD views on the need for structural reform. Nevertheless, more should be done to implement these initiatives in practice. These great ideas should be implemented on the ground.

The OECD projects economic activity in India to pick up gradually in the coming years. Measured at market prices and for the fiscal year, GDP is projected to grow 5.4 percent in 2014 and 6.6 percent in 2015. Private consumption is expected to grow steadily, in particular in rural areas, reflecting past rises in agricultural minimum support prices and rural wages. Investment should recover, as the decline in political uncertainty has boosted business sentiment. We project a rebound in external demand that will boost exports.

There will be headwinds to domestic demand, however, from tight monetary and fiscal stances, and high corporate leverage. Inflation is projected to decline gradually.

What signs indicate a turnaround of the Indian economy?

In 2014, the economy has shown signs of a turnaround, and imbalances have decreased. Fiscal consolidation at the central government level has been accompanied by a decline in both inflation and the current account deficit. Confidence has been boosted by ongoing reforms to the monetary policy framework, with more weight given to inflation.

The large depreciation in the rupee has also helped revive exports. Industrial production has rebounded and business sentiment has surged, triggered by a decline in political uncertainty. While India is accelerating, other emerging markets are slowing, or growing much less quickly.

What does India need to do to sustain this level of growth?

Despite these positive developments, further reducing macroeconomic imbalances will be key to sustain consumer and investor confidence, and to contain external vulnerabilities. This will require adhering to the fiscal roadmap and implementing the proposed changes to the monetary policy framework.

There is also urgent need for structural reform. The manufacturing sector could contribute more to income, export and employment growth. Labor and tax regulations are complex and raise the cost of doing business. Manufacturing firms tend to stay small to avoid taxes and complex regulation, and their productivity is low.

Labor regulations should be simplified. Firms often cannot find employees with the right skills, calling for improvements in the quality of education and training. Frequent power outages, land acquisition gridlock and poor transport infrastructure also make it difficult for firms to be competitive and reach new markets.

Creating more and better employment for women would be a major accelerator for the Indian economy. Female economic participation is low, reducing growth and living standards. Many women work in marginal jobs and have much lower pay than men. A host of factors constrain women in the labor market, including cultural norms, safety concerns, lack of child care and poor infrastructure. Modernizing labor laws and extending female quotas to state and national parliaments could help in this respect.

What are the major factors still hampering economic growth in India?

Inflation expectations have stayed stubbornly high, despite slowing of actual inflation. The OECD Economic Survey recommends a flexible inflation targeting regime to bring inflation expectations down.

The fiscal budget deficit remains a concern. As it turns out, most expenditures on subsidies do not reach the poor. Redirecting even 50 percent of the subsidy costs to health would increase health expenditures by 50 percent and still narrow the overall fiscal deficit.

To support faster growth, the OECD recommends that India take steps to enable more infrastructure investment and business investment. Prime Minister Modi's agenda puts these reforms high on the list. In the longer term, increasing the labor force participation of women will also support long-term faster growth.

What role does the issue of corruption in governance play in this context?

India has very complex regulatory procedures and high administrative burdens for firms, which not only impede growth, but create opportunities for corruption. Research shows that a lack of institutional and political transparency is strongly correlated with corruption. As a result, in India a large part of subsidies on electricity, food and fuel that are supposed to protect the poor never reach them.

There have been numerous initiatives to simplify and improve government administration and boost transparency, notably through the use of information and communications technology. Launching such initiatives is laudable, but these efforts still need to be implemented across all levels of government. A lack of political will often condemns good anti-corruption initiatives. States in India have direct responsibility for a number of areas, but their attitudes and efficiency with which they administer basic laws can differ considerably.

You said India needs a simpler and more flexible labor law. What exactly do you mean by that?

Right now, only about 10 percent of the working population is covered by labor regulations, as firms have adjusted their size and contracts to avoid these regulations, choosing instead to stay in the informal sector.

As a result, workers are not protected, firms are too small and overall productivity remains low. Simpler and more flexible labor laws offer an alternative growth path for firms, new opportunities for the creation of quality jobs, and better prospects for Indian workers.

Catherine L. Mann is Chief Economist is at the Paris-based Organization for Economic Cooperation and Development (OECD).