Should we worry about India?

India may not have matched China’s spectacular rise but it has been one of the great emerging market success stories of recent years.
For the Gulf countries, India’s progress has meant an intensifying economic relationship and contributed to the growing reorientation of the region toward the booming Asian economies.
But, as is obvious to anyone observing the sliding rupee in recent months, signs are now multiplying that not all is well with the Indian growth engine.
Having reached an impressive 9.3 percent in fiscal year 2007-08, Indian GDP growth fell to 6.5 percent in FY 2011-12 (which ended in March), down on 8.4 percent a year earlier.
The pace during Q1 2012 was an unexpectedly slow 5.3 percent, in sharp contrast to 9.2 percent a year earlier.
The rate of expansion during the past year has hence been weaker than the 6.7 percent pace recorded during the crisis of FY 2008-2009.
A large part of the challenge clearly comes from the vulnerability of India’s increasingly open economy to the deteriorating global situation.
But domestic policy tightening after earlier stimulus measures poses another dilemma. The Reserve Bank of India (RBI) pushed up interest rates by a total of 375 bps in 2010-11 while the government has sought to consolidate its fiscal position.
The latest budget seeks to reduce the central government deficit from 5.9 percent to 5.1 percent of GDP.
This reality to an extent ties the authorities’ hands in the face of the mounting global risks. New fiscal stimulus has been effectively ruled out in contrast to the 2008 shock when India only ran a 3.1 percent deficit.
The RBI has somewhat more ammunition and lowered its rates by 50 bps in April with a further 25 bps widely expected this month.
But the conviction is clearly strengthening that India will need to restart its economic reform agenda and develop new drivers of growth.
The government this month unveiled a seven-point plan to develop exports with a view to achieving a 20 percent annual growth.
But the remaining obstacles are legion with India still ranked only 132nd out of 183 on the World Bank’s Doing Business Index.
Problematically, views differ sharply on further liberalization. Last year saw the government ultimately shelve a controversial plan on allowing foreign supermarket chains to operate in the country.
Further divisions have been caused by efforts to scale back subsidies whose cost in the case of fuel, food, and fertilizers is estimated at some 2.4 trillion Indian rupees — some 2.7 percent of GDP. The growing power of regional parties seems to have complicated the efforts to forge consensus around a clear reformist vision, often translating into policy making that settles on the lowest common denominator.
The huge income differentials and widespread poverty underscore the need for inclusive growth but should not distract from the fact that reform has in the past been critical for accelerating growth.
While the recent turbulence may yet prove to have been a short-term aberration, anxiety about more structural problems is clearly mounting.
For the Gulf, any persistent weakness in India would pose problems. India has been a leading source of incremental demand for oil and continued economic turbulence there would like feed into the mounting demand erosion concerns. Even though the oil market fundamentals are tight, a period of price weakness would clearly have implications on government revenues and broader confidence in the GCC.
A weaker rupee might encourage more Indian expatriates to repatriate their funds. Even if the return offered at Indian banks may be declining, it is higher than in the Gulf and may rise further if RBI interventions are needed to defend the rupee.
A weaker Indian economy might also mean less investment and tourism in the Gulf.
As compelling as the decoupling story remains, India’s woes highlight the risks of complacency in an uncertain world.

— Jarmo T. Kotilaine is chief economist at The National Commercial Bank, Jeddah