The year 2019 was a general election year. The people re-elected prime minister Modi and his government with a bigger mandate, and high expectations. Post victory, the PM gauged the nation’s mood, and announced the grand objective of achieving a $5 trillion economy by FY25. The announcement soon appeared hollow; there was no strategy or medium-term framework that looked credible! The FY20 budget must go down in history as the least impressive budget in response to a weak economy. The fault lines of the economy that had opened up much before the election became much deeper and widened in the second half of the year. The mood swing was extreme, bordering on desperation!
2019 was one those rare, exceptional years in which all growth projections for India went haywire. Fellow tribes began with describing the slowdown as mostly cyclical; then, largely cyclical with some structural elements; and finally, as mostly structural with some cyclical components! Naturally, their expectation was a sharp recovery, which turned into a staggered and prolonged one, and, towards the end of the year, shifted to doubts about potential.
It certainly was not the first time that growth forecasts were scaled down by 200-300 basis points. The extreme mood swing in 2019, on the heels of an overwhelmingly desirable political outcome in May and only the third-steepest fall in RBI’s business and consumer confidence survey history (past two were prompted by major global events), can hardly be attributed to these. Rather, it was the lack of policy window to respond, to boost demand, that caused consumer and business sentiments to tumble down. This hangover carries over into the next year, clouding the 2020 outlook.
The depression in mood is larger than, and beyond the growth pessimism that grew progressively in 2019. Remember, the 75 bps quarterly GDP decline in Jan-March 2019 was ascribed to election uncertainties, spending restrictions; activities were expected to resume post-elections. This did not materialise. Instead, real GDP dropped 82 basis points more quarter-on-quarter in April-June. Recovery expectations were cautiously forwarded to the next, festival quarter. But, growth decelerated a further 0.47 points to 4.5% in July-September. Reality then hit hard, and FY20 forecasts were lowered to a sobering sub-5%. Cynicism about achieving 6-7% growth set in. Even the expected uplift to 6% next year now seems to lack conviction. Some consider it unrealistic to expect anything above 5-5.5%. The ubiquitous optimism about returning to the 7% track is replaced by doubts. There is growing reinforcement that India will grow slower in the next decade than the one ending. It would not be surprising if 2019 became the year in which strongly held beliefs about India’s growth changed.
The swing in consumer and business sentiments preceded the cooling embers of growth optimism. It is the collective overhang of a confluence of past policy actions and inactions, solutions that worsened problems in some cases, and a few missteps.
The heightened vulnerabilities in the financial sector in 2019, for example, are an outcome of the problem-handling over the last few years. The NBFC crisis surfaced in late-2018. The government’s steadfast assessment was it was a liquidity problem. Problems festered, carried over into 2019, when these magnified and shook confidence, with occasional defaults that uncovered risky exposures, especially in real estate, opacity, and the lack of promoter equity, amongst other issues. Counterparty suspicion deepened; mistrust rose high. Later measures to unblock and ease bank lending, facilitate takeover of NBFC assets have had marginal impact in de-stressing, failed to restore confidence; the trust gap between financial entities widened and persists. Specific, quick action to reveal asset exposures and qualities could have limited the confidence fall, prevented its morphing into a persistent trust deficit.
The NBFC crisis layered over the existing dearth of confidence and risk-aversion in banks, where elevated NPAs stretched too long. Solutions were delayed, capital support measly and reluctant, leading to stress persistence, and deferred recovery. Cultivated perceptions that all bad assets were wilful, or politically influenced, and targeting bankers for past credit decisions triggered fear, and a lending standstill. Nonbanks raced to fill the lending gap, which was appreciated by authorities, but eventually proved disastrous as excesses built up towards ultimate collapse. One of the most detrimental outcomes of letting high NPAs fester on bank balance sheets has been the blocking of monetary transmission, which hurt the economy and pulled down expectations about monetary policy’s effectiveness.
Inaction elsewhere undermined confidence too, e.g., the power sector, in which invested capital has remained blocked. The real estate crisis festers from inappropriate responses, i.e., continued financial support from nonbanks prevented price corrections and market-clearing of inventories while new, tighter regulations exacerbated stress with their timing. Jerky, hasty regulatory changes, where spin-off effects were not pre-thought, also impacted self-assurance in few segments as these amplified a negative growth spiral, e.g., the auto sector. Tax terrorism entered the public policy lexicon some years ago, and has been another depressant. In 2019, the government attempted to make the tax regime friendlier. Unfortunately, however, fear is not easy to dispel, and confidence takes long to return in such matters.
A remarkable attitudinal shift occurred towards GST in 2019 as views turned to speculate if it has already failed or is on course to be a failure. The adverse beliefs about a desired structural reform, from which hopes of revenue and productivity gains were high, built up over time as implementation was botched-up, and design complexities and high compliance costs were exposed, eroding faith in capabilities. Two years after its introduction, it is telling that calls for GST overhaul, and occasionally-reported recommendations to rationalise rates and simplify the mechanism remain unaddressed. It is a loss of confidence when positive hopes turn into that of failure.
Beliefs about the effectiveness of policies, and, perhaps, their appropriateness, evidently snowballed over time, towards a collective swing in mood in 2019. FY20 budget’s failure to respond to glaring economic weakness was yet another misstep, proved by the subsequent rollback of unpleasant tax proposals. Then too, the stimulation, e.g., corporate tax cuts, was not backed by a revenue-enhancement plan, provoking further doubts; continued silence on this has affected market sentiments. A quarter after the lowered tax regime for manufacturing units, there are no reports of new investment proposals, testifying to how low sentiments sunk.
It is remarkable how adverse sentiments turned around popular perceptions of low inflation, which was considered an achievement and success of inflation targeting and supply-management policies so far. In 2019, it got ascribed to policy overdrive seeing the weakening effects of low food prices upon rural incomes, consumption, and aggregate demand. Its impact upon nominal GDP, and, hence, most fiscal parameters, the resulting resource constraints, and squeezing of policy room at a time of sore need of countercyclical support further supported the changed views on low inflation.
The general loss of confidence, accumulated over time, hangs as the darkest cloud on the horizon. Restoring confidence is crucial for the economy in 2020.
The author is New Delhi based macroeconomist (Views are personal)
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Source: Financial Express