1. We thank the IMF India Mission team for their constructive engagement with our authorities during their visit to India and their excellent staff note and Selected Issues Papers. Our authorities broadly agree with the thrust of their analysis and recommendations. However, there are a few differences in views, which are pointed out in the relevant sections of this Buff statement.
Growth and Inflation
2. India is one of the fastest growing major economies in the world. GDP grew by 8.2 per cent in 2015–16 and 7.1 per cent in 2016–17. Growth in 2017–18 is estimated at 6.7 percent. The prolonged slowdown in global growth, subdued investments and stressed balance sheets of the banking and corporate sectors have impacted India’s efforts to achieve its growth potential. Despite these challenges, growth has accelerated. The economy grew at 7.7 per cent in Q4 of 2017–18 – the fastest pace in the last seven quarters. Gross fixed capital formation (GFCF) growth has accelerated for three consecutive quarters up to Q4 of 2017–18 and capacity utilization by manufacturing firms increased significantly of late. Credit growth has been accelerating and has reached 12.8 per cent year-on-year as on June 22, 2018 as against 5.6 per cent a year ago. Total flow of resources, including those from non-bank sources, had increased to 27.4 per cent in 2017–18. Overall, despite higher oil prices, India’s GDP growth outlook for 2018–19 remains positive and growth is expected to be broadly in line with the IMF staff projection of 7.3 per cent.
3. In view of the rising inflationary trend seen in recent months, the policy (repo) rate was increased to 6.25 per cent in June 2018 to preserve a neutral stance. For 2018–19 the Reserve Bank of India has projected CPI inflation at 4.8–4.9 per cent in H1 and 4.7 per cent in H2 with risks tilted to the upside. However, proactive food supply management by the Government and RBI’s inflation targeting framework are well positioned to contain unwarranted building-up inflationary risks. Going forward, our authorities will continue to strengthen efforts to achieve the medium-term target of headline inflation of 4 percent on a durable basis.
The Fiscal Situation
4. The government is committed to fiscal prudence. The central government finances have achieved substantial consolidation since 2013–14, helped by buoyancy in tax revenues and rationalization of subsidies. The gross fiscal deficit (GFD) was brought down to 3.5 per cent in 2016–17 without sacrificing public investment needs and social sector spending. Though 3.2 percent GFD was budgeted for FY 2017–18, this has been revised upwards to 3.5 percent. The government has budgeted a lower order of GFD of 3.3 percent for FY 2018–19. Further, the government has resolved to achieve a target of 3 percent GFD by 2020–21.
5. The Goods and Services Tax (GST) system introduced with effect from July 01, 2017 has reformed the system of indirect taxes of goods and services in one stroke. By subsuming a plethora of central and state level indirect taxes, the GST has simplified and streamlined payments and credits and enhanced the efficiency of inter-state movement of goods. Needless to mention, the implementation of a far-reaching reform like the GST has been complex and painstaking process in a large country like India. As the tax collection goes up, the capacity to rationalize the slabs and the rates, also will certainly increase. Therefore, these capacities will increase once the total volume of tax collected significantly increases. Also, this tax system will ensure that evasion doesn’t take place. Our authorities believe that with the robust implied buoyancy of GST of 1.2, the tax proceeds could be expected to add up to ½ percent of GDP in revenues in each of the next two years. The positive spinoffs from the GST system have enabled bringing a large part of the unorganized sector within the fold of indirect tax system. Our authorities strongly object to the report’s reference to domestic risks pertaining to tax revenue shortfalls related to continued GST implementation issues. We would like to emphasize that the disappearance of the initial policy inertia over time will ensure that the future revenue stream from GST is more regular and predictable and not subject to these risks.
6. On the expenditure front, the implementation of public financial management system has strengthened expenditure management, with granular reporting of expenditures. Funds leave the consolidated account only when matched to needs. While the linkage of AADHAR unique identity numbers to Direct Benefit Transfer (DBT) have reduced leakages substantially, the government is incentivizing states for their effort to reduce the outgo on subsidies. Reduction in project cost overruns have further helped to tighten expenditure controls. We differ with staff’s views on overshooting of central government’s budget deficit owing to transfers to states on account of GST. We reiterate that such transfers are essentially fiscally neutral.
The External Sector
7. In recent years, India’s external sector has benefited from lower current account deficit (CAD), robust foreign direct investments (FDI) inflows, build-up of reserves and improvement in other vulnerability indicators. India’s foreign exchange reserves stood at US$ 405.8 billion as of July 6, 2018. The CAD to GDP ratio was 0.7 per cent in 2016–17. The CAD ratio increased to 1.9 percent for FY 2017–18.
8. India’s exchange rate interventions are meant to prevent disorderly market conditions. Under normal market circumstances, the exchange rate can move flexibly in line with evolving market developments.
9. On the trade front, India is committed to a free and fair international trade system. Although India recently crossed the income threshold for prohibition of subsidies, the Government is of the view that an 8-year transition period should be applicable for unwinding subsidy schemes as was earlier permitted to countries that crossed the said income threshold in 1994 when the WTO’s Subsidies and Countervailing Measures Agreement was implemented. Our authorities are deeply concerned about a possible reversal of global trade integration. Following the announcement of the imposition of large steel and aluminum tariffs by the United States, the Indian authorities sought consultations on their consistency with the WTO norms. India is concerned about the compounded effect of actions that may be triggered by these tariffs e.g. safeguard actions initiated by the EU on domestic industry and its possible adverse impact on the global trade system. Moreover, selective exemptions potentially undermine the MFN/non-discrimination principle. The average MFN applied rate for India for all commodities was 13.1 per cent in 2016. However, for non-agricultural commodities, the applied MFN rate was lower at 9.8 per cent in 2016. By these yardsticks, India’s tariffs are not substantially higher than those of its peer countries, given that it is still at a relatively lower level of economic development. The bound rates have been negotiated based on the level of economic development of the country and the tariffs are well within these bound rates. Besides tariff changes are infrequent and certain changes within the bound rates should not be construed as ‘frequent’ modifications in tariffs, as has been mentioned in staff report.
10. India has taken several reforms to liberalize services trade. Thus, the assessment of restrictiveness based on the figures using OECD Services Trade Restrictiveness Index (STRI) and the World Bank (WB) STRI may not be appropriate given India’s serious objections to the methodology and construction of the STRI, which portrays India as being excessively restrictive despite several reforms. It may also be underscored that while the STRI does not consider several reforms undertaken by India to liberalize services trade, the areas in which the developed countries’ regime is most restrictive, e.g., Mode 4, are not reckoned in the calculus of the STRI. Finally, India’s FDI regime, which includes investment in services, has been significantly liberalized, with 100 percent FDI being allowed under the automatic route in several sectors. The staff report’s reference to statement about restrictions on foreign entry, barriers to competition and lack of regulatory transparency as the main obstacles are unsubstantiated by facts and we object to this characterization of the trade regime in India.
11. Most sectors have been brought under automatic approvals route for foreign investments and caps in different sectors have also been largely relaxed. With the successful implementation of e-filing and online processing of FDI applications, the approval system based on a single window system for FDI has been put in place. The system of inter-ministerial joint quarterly reviews of FDI proposals enable quick processing of foreign investments request. The continuing thrust on liberalization in recent years has given India the unique status of the most open economy in the world for FDI. The UNCTAD’s survey of multinational enterprises ranked India as the third most favorite host country for FDI for 2017–19 after the US and China. Gross FDI inflows during FY 2017–18 stood at US$ 60.97 billion compared with US$ 60.22 billion in the previous year, US$ 55.56 billion in 2015–16 and US $ 45.15 billion in 2014–15.
12. The initiatives taken towards ease of doing business have started to bear fruit as can be seen from the World Bank Doing Business (DB) Report, 2018 (released in October 2017), which ranked India 100 among 190 countries, registering a leap of 30 ranks over its previous rank of 130 in the Doing Business Report 2017. A single window portal has been established for receiving FDI applications that require Government approval. The applicants can file online applications on this portal, which are then electronically transferred to the concerned Administrative Ministry/Department. The present system has been functioning smoothly since its inception and average time taken to process the FDI applications has reduced significantly.
The Financial Sector
13. The financial sector is undergoing transformation with a focus on resolution of stressed assets in the banking system, the legal framework for insolvency resolution has been reinforced with the enactment of Insolvency and Bankruptcy Code (IBC), 2016 and amendments made to the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) and Debt Recovery Tribunal Acts. The IBC 2016 provides for a market-determined, time-bound process for orderly resolution of insolvency, and ease of exit, wherever required. Rules governing voluntary corporate liquidation have since been established by the Insolvency and Bankruptcy Board of India (IBBI) responsible for implementation of IBC 2016. The National Company Law Tribunal (NCLT) and National Company Law Appellate Tribunal (NCLAT) – the arbitration and appellate frameworks – are already functional and have established operational processes for complete resolution of cases brought before them. The implementation of the IBC will contribute to the speeding up of the NPA resolution.
14. Banks’ provisioning is improving, and early indications from some of the large cases subject to the IBC process suggest that the provisioning requirements may be sufficient. To mitigate further build-up of balance sheets risks, smaller public sector banks (PSBs) have been advised to reduce their corporate loan exposures by a minimum of 15 per cent by March 2019 and put in place board-approved policies to ensure appropriate loan exposure mix. Meanwhile the Financial Resolution and Deposit Insurance Bill 2017 (FRDI Bill), has been introduced in the Indian Parliament. The Bill envisages constitution of Resolution Corporation to protect consumers of financial service providers from financial distress. The FRDI Bill will complement the IBC, and together, they will provide a comprehensive resolution framework for the entire economy. Our authorities are committed to governance reforms in PSBs and are monitoring the progress through a reporting framework. In fact, governance reforms and action plans to enhance operational efficiency and customer services are integral to the recapitalization package provided to the PSBs.
Agriculture and the Rural Economy
15. Emphasis on the implementation of rural roads program, rural electrification and affordable housing projects have added depth to growth and employment. Continuing the thrust on agriculture and rural sector, the central budget 2018–19 increased allocation for creation of livelihoods and rural infrastructure with an objective to provide maximum opportunities in the rural areas by substantially ramping up spending on agriculture and allied activities and construction of irrigation and other rural infrastructure. In the absence of fair marketing infrastructure, the Minimum Support Price (MSP) system has played an important role in supporting the farmer incomes through fair realization of their produce. The government has initiated measures to double farmers’ incomes by 2022 through price support measures, better marketing infrastructure, thrust on exports and enhanced private investments. An Agri-Market Infrastructure Fund is proposed to be set up to develop and upgrade agricultural marketing infrastructure in rural agricultural markets. However, given the wide disparity in nutritional status among the people, the state’s role in procurement and distribution of foodgrains to identified beneficiaries will remain significant for supply management and inflation control.
16. To facilitate international as well as domestic funding in infrastructure, the National Infrastructure and Investment Fund (NIIF) was formed. The objective of NIIF is to attract equity capital from both international and domestic sources for infrastructure investments in commercially viable projects, both greenfield and brownfield, and stalled projects. It will operate with the highest standards of governance, and keep in mind the need to balance transparency and confidentiality among stakeholders and partners. The NIIF Ltd. plans to partner with leading infrastructure operators, who bring well-rounded industry knowledge from India and around the world to build world class companies in infrastructure and related sectors in India.
17. Budget Announcements 2018–19 emphasised on using innovative monetizing structures like Toll-Operate-Transfer (TOT) and Infrastructure Investment Trusts (InvITs) to monetize select Central Public Sector Enterprises (CPSEs) assets. To improve user services, augment infrastructure investment and create opportunities for the private sector, an asset recycling strategy for mature operational assets is proposed to be introduced across infrastructure sectors covering highways, railways, petroleum, telecommunications etc. through Public Sector Asset Monetization (PSAM). PSAM involves transferring existing public-sector infrastructure assets to institutional investors and private operators to unlock efficiencies and reinvest proceeds in new infrastructure projects. Asset recycling is common in several countries including Australia, US and UK. In recent years, India has begun recycling of infrastructure assets, through models such as Toll-Operate-Transfer (TOT) and Infrastructure Investment Trusts (InvITs) which hold immense potential. The Asset Recycling Model and 100 percent FDI in construction will attract foreign investment in the infrastructure sector as well as help tackle the problem of stressed assets in the banking sector.
Labor Market Reforms
18. Our authorities are addressing labor market rigidities. Four Labor Codes on Wages, Industrial Relations, Social Security and Welfare and Occupation safety, Health and Working Conditions, respectively have been drafted by simplifying, amalgamating and rationalizing the relevant provisions of the existing central Labor Laws. In a key development, the Government amended the prevailing legislation to allow ‘fixed term employment’ for all sectors. This and other meaures will be instrumental in removing structural rigidities in the labour market, reduce informality and encourage firms to expand and benefit from economies of scale and contribute to productivity gains and higher long-term growth. Labor market rigidities may also partly be responsible for lower female labor force participation. However, lower female labor force participation could also mean higher engagement of females in learning and education. Recent plans to increase the coverage of healthcare and new welfare provisions which cover the informal sector and enhanced paid maternity leave of 26 weeks under the Maternity Benefit (Amendment) Act 2017 should improve female participation in labor force.
19. Social safety nets for the common people have been strengthened with the introduction of affordable insurance and pension schemes. As part of efforts to improve food distribution system, the Government is taking steps to (a) modernize the PDS; (b) introduce best practices; (c) improve the efficiency; (d) bring in transparency in the PDS operations; and (e) enable rightful targeting of food subsidies. The Department of Food & Public Distribution in collaboration with States is implementing a scheme on ‘End-to-End Computerization of PDS Operations’. Activities under the scheme include digitization of ration cards/beneficiaries, online allocation of foodgrains, computerization of supply chain management, setting up transparency portals and online grievance redressal mechanisms. Seeding of AADHAR numbers with digitized ration cards/beneficiary database is also being done.
20. The central budget for FY 2018–19 has introduced the flagship ‘National Health Protection Scheme’ which will cover 100 million poor and vulnerable families in the country, or about 500 million beneficiaries, with a defined benefit cover of Rs. 0.5 million per family per year for secondary and tertiary care hospitalization. To step up investments in research and related infrastructure in premier educational institutions, including health institutions, a major initiative named ‘Revitalizing Infrastructure and Systems in Education (RISE) by 2022’ with a total investment of Rs.1000 billion in next four years is envisaged.
21. Our authorities are pursuing a balanced policy agenda, which combines macroeconomic stability, fiscal prudence, financial robustness and a sustainable external sector with long-term objectives of building infrastructure, rural development and a dynamic labor market, which promotes job growth with gender equity. Integral to this strategy are welfare and social protection priorities, which are being addressed with a mix of instruments including, significantly, an ambitious and far-reaching digitization initiative. They are confident that this agenda will facilitate rapid, stable, sustainable and equitable growth over the long term.