The Indian Economy: Evaluating the Success of the Modi Government

New Delhi Skyline, Shamit Manchanda, Flickr

The story of India’s economic growth has been a truly remarkable one. After nearly two centuries of colonial rule in which its economic resources were suppressed and extracted, India has transitioned from a stagnant, underperforming economy to one of the fastest growing economies in the world since its independence in 1947. Many great leaders have utilised different economic policies and growth models to facilitate sustainable development, each of which merit recognition in the study of the Indian growth experience. The current National Democratic Alliance (NDA) government lead by Prime Minister Narendra Modi has addressed some key macroeconomic issues during its two years in office. While progress has not been completely smooth, the current policies have enabled the continuation of India’s economic growth and development.

  1. Inflation

One of the major problems faced by the Indian economy in the 21st century has been that of inflation. The average rate of inflation rose from 6.4% in 2007 to 10.9% in 2013. India’s inflation problems from 2008 to 2013 were spearheaded by a rise in prices of food commodities. While the root cause was a period of disappointing crop yields due to repeated monsoons, the policy of the United Progressive Alliance (UPA) government (which was in power at the time) to raise the minimum price of agricultural commodities in order to support local farmers further exacerbated the problem of inflation.

The current NDA government has successfully brought the factors influencing inflation under control, but it must ensure that a stable rate of inflation is maintained in the future.

More recently, inflation in India has subsided somewhat and it has fallen to below 5% – the lowest it’s been since August 2015. There are two main factors responsible for this recent decline. Firstly, farmers were able to bring more land under cultivation, thereby increasing the supply of food commodities. Secondly, the Reserve Bank of India’s decision to keep interest rates high while this was happening curbed private investment in agriculture which ensured that rural wages (and therefore food prices) did not rise. Thus, by the time the NDA came to power, food prices were already declining. To their credit, their efforts in restricting exports and minimum support price have helped maintain this trend.

Throughout its history, India has faced difficulties in tackling inflation and this has often been a critical point of discussion in election campaigns and policy setting. The current NDA government has successfully brought the factors influencing inflation under control, but it must ensure that a stable rate of inflation is maintained in the future.

 

  1. Economic Growth

Different governments have approached the problem of economic growth in different ways. From an era of ‘Nehruvian Socialism’ to the New Economic Policy of 1991, the Indian economy has witnessed many ups and downs in its growth trajectory. Prime Minister Modi’s work towards reviving economic growth has largely centered around changing the outlook of business and investment in the country; as a result, GDP growth has increased from 6.6% in March 2014 to 7.6% in March 2016. The government has taken many steps towards facilitating economic development, including introducing reform to key sectors that should, in theory at least, accelerate economic growth across the Indian economy.

GDP growth has increased from 6.6% in March 2014 to 7.6% in March 2016

One of the most significant steps taken to achieve this goal has been the creation of the renowned ‘Make in India’ initiative. This policy seeks to make the country a manufacturing hub by encouraging domestic and foreign companies to manufacture in India, with the ultimate aim of raising the share of manufacturing as a portion of GDP to 25% by 2022 and to create 100 million jobs. Set against the backdrop of a global economic slowdown, poor national infrastructure and numerous complexities in doing business, the Make in India initiative has faced many challenges, and will continue to do so before it can hope to achieve its desired aim. Its ultimate success will be judged on a few key elements: improving the business environment, attracting private and foreign capital, and encouraging firms to set up shop in India and sell to the Indian market.

 

  1. Ease of doing business

A key step taken by to improve the ease of doing business was to create a well-structured investment policy agency that acts as a liaison between the government and investors. It was with this vision that the Department of Industrial Policy and Promotion undertook the revival of a government initiative known as ‘Invest India’. The success of Invest India, along with the reforms made by the central government, has helped India move to 130th out of 189 countries in the World Bank’s ‘ease of doing business’ index, up 4 places from its 2015 rank. These reforms include a reduction of business registration fees, an elimination of the minimum capital requirement, strengthening minority investor protections and simplifying the process of getting electrical connectivity for businesses.

 

  1. Infrastructure and the Fiscal Deficit

The government has also taken steps towards improving Indian infrastructure. In 2015 the government loosened its fiscal deficit targets and doubled spending on roads and bridges. Furthermore, the launch of the NDA’s numerous infrastructure improvement campaigns, such as Swachh Bharat (Clean India) and the Smart City Mission, will, if implemented correctly, go a long way towards improving the infrastructural of Indian cities. This in turn will attract investors to set up manufacturing units in the country. The NDA government has been successful in placing an emphasis on public capital formation, while at the same time lowering the fiscal deficit, which as a percentage of GDP stood at 3.9 % in March 2016 vis-à-vis 4.4% in March 2014. However, many economists still feel that there is more scope for public investment under the NDA.

While the government does appear to be taking the right steps in the pursuit of economic growth, the Make in India initiative can only bolster economic development if it is successfully implemented across the nation. The fundamental requirement for the success of this initiative is a steady inflow of foreign investment. Having visited over 40 different countries in his first two years in office, Prime Minister Modi has signed various bilateral treaties that will improve India’s trade relations and bring in much needed FDI into the economy.

 

  1. Foreign Direct Investment

Recent history suggests that India is a hot destination for FDI.  AT Kearney, a consultancy, ranked India as the 2nd best destination for foreign investment in its FDI confidence index of 25 countries in 2005, 2007 and 2012. In 2013 however India fell to 5th place, signalling that a cooling off period for investor confidence may be underway. This was confirmed by a further decline to 7th place in 2014.

The administration failed to improve the business climate and the Make in India initiative failed to yield tangible results in its initial few months.

This sudden decline did not improve much during the first year of NDA rule, with India being pushed out of the top 10 for the first time in over a decade and finishing at a rank of 11. The reason for this, in addition to international factors such as the recovery of the US economy, was the lack of reform that had taken place under the Modi government in its first year. The administration failed to improve the business climate and the Make in India initiative failed to yield tangible results in its initial few months.

However, certain decisions taken by the government during the course of the year helped India climb back up to 9th place in the 2016 rankings and have restored FDI levels and investor confidence. Policies such as the completion of the Rafale deal and two sets of radical reforms in FDI policy have meant that India has become ‘the most open economy in the world’. Subsequently, FDI has hit an all-time high in early 2016 at a level of $40 billion.

 

Final Assessment

In order to succeed with their economic agenda, the NDA must appreciate that the individual elements of their economic plan are interlinked and therefore they should approach the challenge in a holistic manner. India cannot hope to sustain its current growth or become a manufacturing hub over the next five years if the bulk of the population continues to lack basic educational and healthcare facilities. Improving access to these vital public services for Indians living in rural areas is of critical importance to achieving balanced growth. Even in urban areas, where access to healthcare and educational services is better, the services desperately require improving. Similarly, if infrastructural development in areas such as such as cleanliness, provision of water and electricity are restricted to cities, the aim of bolstering growth across the economy is unlikely to be achieved.

Export growth has worsened under the NDA, bringing into question the government’s approach to foreign policy.  While Make in India, if successful, has the potential to address the issue of export performance, the sustained decline in exports over the last two years begs the question as to how long the government can afford to wait before it considers alternative solutions. However, the issue of trade raises an important question. While the extensive opening up of the economy may indeed result in higher levels of foreign investment, it also ties the fate of the Indian economy to volatile global capital markets – India already witnessed a sharp decline in in FDI flows in the wake of the 2008 Global Financial Crisis and subsequent recession. There is also the danger that exposing Indian firms to foreign competition may result in many firms dropping out of the market because they are unable to compete.

The administration has successfully grappled with high inflation, reversed a trend of declining economic growth and achieved a certain degree of macroeconomic stability during a global slowdown.

Lastly, if India ever hopes to break into the top 100 countries in the ‘ease of doing business’ index, the problem that must be addressed is the divide between the central and state governments. Investment decisions are not only influenced by the policies of the central government but also those of the state governments and the infrastructure available in different states across India. Furthermore, thanks to political propaganda India has been sending out the wrong message to investors across the world on numerous occasions. The damage to investor confidence will take time to recover.

Overcoming these economic challenges problems could result in a burst of tremendous growth for the Indian economy which, two years into NDA rule, can be regarded as a success, despite the fact that Prime Minister Modi’s vision has yet to fully materialize. Some may argue that the India’s recent success is being driven by favorable exogenous factors such as the low prices of oil or the slowdown of the Chinese economy. However, the NDA does deserve credit here. The administration has successfully grappled with high inflation, reversed a trend of declining economic growth and achieved a certain degree of macroeconomic stability during a global slowdown. The stability of growth, increase in investment from abroad and decline in the rate of inflation have all contributed to India’s current position as the . Whether or not Prime Minister Modi can build upon the achievements made over the past two years and overcome the the obstacles to further success is a question that can only be answered in due course. But today, nearly seventy years after becoming independent, India continues to strive towards economic development and emerge as a serious player within the international community.

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