We thank the IMF India Mission team for their constructive engagement with our authorities during their visit to India and their staff report. Key points in the staff report and the issues where staff and authorities have divergence in views have been highlighted in this BUFF statement.
India is the fastest-growing major economy in the world, notwithstanding the subdued expansion witnessed in recent quarters. Both the IMF and the Reserve Bank have projected India’s GDP to grow at 6.1 percent in 2019–20 and WEO has projected growth to be at 7.0 percent in 2020–21 and to accelerate further in the subsequent years. We agree with the view that growth will be subdued this year, before recovering. The authorities have taken several growth-supporting measures including a series of policy rate reductions, a large cut in the corporate income tax rate, continued resolution of impaired assets of banking sector and bank recapitalization. These measures are expected to provide a boost to both investment and consumption. Further, India’s continued commitment to fiscal discipline, a sound external position, liberalization of FDI inflows and enhanced emphasis on financial inclusion would provide a solid ground for sustaining robust growth in the years to come.
Headline consumer price inflation is projected to remain within or possibly below the Reserve Bank’s target of 4 per cent during 2019–20. Past seven months (April-Oct) CPI inflation averaged only 3.5 per cent even though food prices seem to have emerged out of negative terrain. However, core CPI inflation has declined from 5.8 per cent in 2018–19 to 4.2 per cent in April-Oct 2019. Core WPI inflation (excluding food and fuels) has witnessed an even larger decline from 4.8 per cent in 2018–19 to 0.4 per cent during April-Oct. 2019. Sensing the policy space in terms of current and projected inflation being both below the inflation target and taking into consideration its assessment of subdued domestic growth and global slowdown, the RBI acted in a welcome forward-looking manner, by cutting policy rates starting February 2019.
On the fiscal front, the authorities agree on medium-term fiscal consolidation and have emphasized on the progress made in recent years in the direction of reducing the fiscal deficit. We would like to suggest that a better way to analyse the fiscal position would be to look at the international norm of cyclically adjusted fiscal deficits i.e. a measure which takes account of the fact that, over the course of the business cycle, revenues are likely to be lower (and such items like social expenditures higher) at the trough of the cycle. Thus, a higher fiscal deficit cannot always be attributed to a loosening of the fiscal stance but may simply reflect the fact that the economy is moving into a trough. The authorities have drawn attention to the fact that the path of fiscal consolidation is outlined in the Fiscal Responsibility and Budget Management (FRBM) Act. Underscoring the cyclical weakness in growth, the government has recently taken massive corporate tax reforms which include reduction in the corporate tax rate from 30 per cent to 22 per cent for existing companies and a reduction from 25 per cent to 15 per cent for fresh investments by new companies – the largest tax cut in a single year by any country, ever.
Taking note of the staff remarks regarding possible difficulty in achieving the budgeted revenue and fiscal deficit targets subsequent to the tax cuts, the authorities are of the view that streamlining the filing and refund mechanism of Goods and Services Tax (GST) along with digitization should enhance both compliance and collection. Corporate tax cuts are expected to not only spur economic activity but also to enhance compliance; both effects will tend to offset short-term revenue losses.
Personal income tax revenue has been buoyant in recent years with improved compliance and a widening of the tax base. In the first five years of the new government (2014/15 to 2018/19) there was a quantum leap of 69 percent in the number of personal income tax returns, a 46 percent increase in the number of firms filing returns and a sizeable increase in the direct tax to GDP ratio (from 5.6 per cent to 6.0 per cent). The overall tax to GDP ratio increased from 9.9 percent to 11.8 percent during the same period. A rationalisation of taxes for personal incomes, like corporate taxes, may provide sustained support to household consumption demand, and economic growth.
The authorities welcome the staff suggestion of targeting subsidy support by way of direct-benefit-transfer (DBT) beneficiaries as in the case of PM-KISAN support to small and marginal farmers (which was an out-of-the-box initiative of the government in December 2018; it has now been extended to all farmers). The authorities are committed to reforming benefit delivery systems by re-engineering the existing process to ensure accurate targeting of beneficiaries. Transfer of benefits has increased from about USD 1.2 billion in 2014–15 to USD 38.4 billion in 2018–19 – with an estimated gain of USD 20.2 billion due to rationalization of the quantum of benefits and removal of duplicate and/or bogus beneficiaries. Notably, the number of DBT beneficiaries expanded six-fold from 228 million to 1376 million during the same period, a tectonic shift in delivering sound social benefits with prudent economics. Thus, we must recognise that rather than looking at total subsidies, it would be more prudent to differentiate between subsidies with strong positive externalities and subsidies that have negative externalities (from perspective of welfare maximisation.)
Several profit-making public sector enterprises (PSEs), wherein majority stake is held by the government, adhere to corporate governance and operate on commercial principles in a manner similar to their counterparts in the private sector. Thus, borrowings by such enterprises do not crowd out private investment. In fact, a considerable part of the public sector borrowings go towards capital formation and, thus, to sustain productivity and economic growth. This aspect needs to be considered for a more appropriate assessment of the fiscal stance.
We agree with the staff view that banks’ funding costs can be reduced by a pass through of changes in the policy rates to administered interest rates (e.g., on NSSF certificates). High administered interest rates impart rigidity to overall deposit and lending rates in the economy and keep the cost of capital higher than desired. By keeping the small-savings interest rates on par with rates of market instruments of comparable maturity, the cost of capital can be brought down in the economy. Contextually, the High-Level Advisory Group (2019) constituted by the Minister of Commerce and Industry, Government of India, has recommended that transmission of lower repo rates for consumers is hindered by the operation of interest rates on savings deposits schemes by the government (small savings, special interest rates for senior citizens, etc.) and has urged the need to revisit these schemes.
Staff has supported RBI’s accommodating monetary stance – a cumulative reduction of 135 bps in the policy rate since February 2019. However, monetary transmission has remained staggered and inadequate. As against the cumulative policy repo rate reduction of 110 bps during February-August 2019, the weighted average lending rate (WALR) on fresh rupee loans of commercial banks declined by only 29 basis points. However, the WALR on outstanding rupee loans increased by 7 basis points during the same period. The authorities have been examining various policy options to improve monetary transmission. From 1st October 2019, banks are required to link their floating rate loans to external benchmarks. Further, RBI has planned a reduction in Statutory Liquidity Ratio (SLR) to 18 per cent by April 2020 to provide a larger space to private players in economic activity. These measures are expected to improve the transmission ahead and bring down the lending rates.
Various high frequency indicators suggest that domestic demand conditions have remained weak. The business expectations index of RBI’s industrial outlook survey shows muted expansion in demand conditions in Q3 of 2019–20. The negative output gap in the economy has widened further. While the recent measures announced by the government are likely to help strengthen private consumption and spur private investment activity, intensified policy efforts will restore the growth momentum. As long as the RBI’s projections of headline inflation affords comfort for its assigned objective of monetary policy to maintain price stability while keeping in mind the objective of growth, RBI can use available policy space by reinvigorating domestic demand. The staff has suggested that there could be room for additional easing.
Authorities broadly agree with the staff’s assessment of the external sector. External sector fundamentals remain robust. Staff observed that India follows a flexible exchange rate policy with two-way nature of market intervention. Government has further eased various capital flow management measures including raising limit on FPI investment in government securities, external commercial borrowings and automatic route for more sectors. As per the staff assessment, reserve cover held by RBI is adequate even in case of a sustained 30 per cent increase in oil prices. Notably, India’s current account deficit remained well within the sustainable level estimated at about (-) 2.5 percent of GDP. Regarding the recent use of longer-term foreign exchange swaps, though the staff highlighted the balance sheet risks, authorities feel that the risks remain limited, given the size of the operations.
Insolvency and Bankruptcy Code, 2016 (IBC) has proved to be a successful path for lenders to recover their loans from defaulting companies. According to the latest data published by the Insolvency and Bankruptcy Board of India, the recovery rate for the financial creditors in 158 cases resolved through IBC by September 2019 is 42 per cent compared with an average recovery rate of 26.5 per cent prior to IBC. The recovered amount is around twice the liquidation value for these 158 cases, which underscores the value maximization possible through the IBC process. Moreover, the revised guidelines on resolution of stressed assets reduce the reliance on court procedures and provide more flexibility for banks to design and implement resolution plans while providing disincentives for resolution delays.
Regarding the staff suggestion for legal changes to formally provide the RBI full supervisory powers over the public sector banks (PSBs), it may be noted that the RBI’s supervision is ownership agnostic. Moreover, the Government of India has announced governance reforms for PSBs. The authorities do not at this stage consider the FSAP suggested legal changes as necessary.
Control of Corruption and Ease of Doing Business
In the staff report there is a discussion about corruption perception based on third party indicators. In our view, the discussion and analysis on corruption vis-à-vis similar size of economies in the BRICS and the G20 economies is overplayed. In contrast to the World Economic Forum (WEF) survey, as per the `Control of Corruption’ index prepared by the World Bank, India has made significant (and unprecedented) progress since 2014. The percentile rank of India which was much below the world median in 2013 has now jumped to the world median value in 2018, an improvement of 13 ranks. This trend is going to be strongly reinforced in the coming years.
Similarly, if one goes by “The 2019 Edelman Trust Barometer” (Jan 20, 2019), India is among the most trusted nations globally when it comes to government, business, NGOs and media (https://www.edelman.com/trust-barometer). Further, as per the World Bank data, India has emerged as the top improver in the `Ease of Doing Business’ for the fourth consecutive year (beginning 2016) among the 43 countries with GDP of US$ 300 billion or more. India has made a leapfrog jump in its rank in ‘Ease of Doing Business’ in a short span of time from 142 in 2014 to 63 in 2019. The World Bank has also acknowledged that this is a tremendous achievement, especially for an economy that is large and complex. Our authorities’ focus is on further improving this trend. There seems to be insufficient appreciation in the staff report on this very important economic reform undertaken by the authorities.
Further on Governance: The government has taken several legislative and administrative steps towards bringing about transparency in governance and improving the public service delivery mechanism. The government’s steps for qualitatively improving governance include Aadhar – the national identity document; direct transfers of government subsidies to actual beneficiaries’ bank accounts; linking MGNREGA (rural employment generation scheme) to infrastructure development; and digitization of land records. Demonetization of high value currency announced on November 8, 2016 was also aimed at addressing corruption, black money, counterfeit currency and terror financing. The Prevention of Corruption Act was amended in 2018 with the objective to punish corruption. The Government of India has also launched a Digital India Programme with a vision to transform India into a digitally empowered society and knowledge economy by digitally empowering its citizens, and providing seamlessly integrated public services and e-governance. The emphasis of the authorities has been on transparency, accountability and in-time delivery of services.
Employment and Rural Economy
As we show below, the staff’s assessment of what has happened to employment and unemployment and gender quality is deficient in nuance. The latest Annual Survey of Industries (ASI) data clearly show that there was an average annual increase of 2.7 % (from 13.4 to 15.6 m) between 2011/12 and 2017/18, the two years with large scale employment surveys.
Estimates based on Employees’ Provident Fund Organisation (EPFO) payroll data has also shown similar outcomes regarding job creation and formalization of the economy. As per EPFO payroll data released in October 2019 which is for the period September 2017- August 2019, there was a net addition of 12.4 million payroll subscribers (formal sector employment). During 2018–19, the net addition in payroll subscribers was 6.2 million.
The staff’s observation on unemployment in India presents a very preliminary and incomplete assessment. We would have appreciated a granular analysis of the subject to present a comprehensive picture of the employment situation. Based on the Periodic Labour Force Survey (PLFS), using the principal status (permanent job definition) there was an increase of 8 million jobs between 2011/12 and 2017/18. We also find that there has been a significant shift from temporary to more durable employment and hence a greater formalization of the job market.
Also, there has been a notable jump in the educational level of the workforce, particularly for women, and this has an inverse correlation with employment status i.e. a person cannot both be employed and be a full-time student – the two are mutually exclusive categories. Hence, a jump in education enrolment of women means a decline in the unadjusted LFPR (labor force participation rate). If the LFPR has been adjusted for education enrolment, then there is actually an increase in the female LFPR. For the education intensive age-group 15 to 24, the adjusted LFPR for women increases from 48 % in 2004–5 to near 60 % in 2017–18. In other words, nearly two-thirds of the young female population is either attending school or in the labor force. This reflects a strong inclusive growth process in India, something not adequately captured in the Report.
In order to improve the economic well-being of the rural population, the government has undertaken several initiatives. It launched a Pradhan Mantri Fasal Bima Yojana (PMFBY) with an aim of supporting sustainable production in agriculture sector by (i) providing financial support to farmers suffering crop loss/damage, (ii) stabilizing the income of farmers, (iii) encouraging farmers to adopt innovative and modern agricultural practices and (iv) to support improved flow of credit.
Authorities fully agree with the staff recommendation about upgrading of infrastructure. With an aim to become 5 trillion dollar economy by 2024–25, government is proceeding with its plans to make US$ 1.4 trillion investment in infrastructure in the next 5-year period to give further impetus to national roads, highways, modernizing ports and creating air connectivity of small towns. These initiatives are aimed at improving logistics and reducing transportation costs so as to enhance competitiveness of domestic manufactured products.
To ensure inclusive growth, authorities have implemented a series of welfare programmes that need appreciation given the unprecedented scale and intensity of these programmes. These include provision of access to toilets, clean cooking fuel, water, electricity, health, education, minimum income, and pension benefits to the rural/vulnerable sections of the population. India has achieved near 100 per cent open-defecation free environment, near 100 percent rural electrification, provided clean cooking gas to 70 million families via Liquified Petroleum Gas (LPG) connections, and steps are being taken to provide piped water supply to all rural households by 2024; and 50 million small and marginal farmers will receive pension benefits in the first three years of the new pension scheme.
Steps have been taken to implement more accessible and affordable health schemes whereby health cover has been provided to 107 million families belonging to the vulnerable sections of society. The unbanked population has been provided affordable access to financial services such as bank accounts, remittances, credit, insurance and pensions under the government’s flagship scheme called Pradhan Mantri Jan Dhan Yojana (PMJDY), which was launched in August 2014. As of 3rd July 2019, there were 192 million bank accounts under the scheme, which is an important step in the direction of inclusive growth.