- Beyond politics of whitepaper
- Hurdles to $5 trillion target
- Growth argument vs fiscal discipline
Muralidhar Swaminathan in #NDTVProfitExclusive conversation with former CEA K V Subramanian. #NDTVProfitLive
- Hurdles to $5 trillion target
- Growth argument vs fiscal discipline
Muralidhar Swaminathan in #NDTVProfitExclusive conversation with former CEA K V Subramanian. #NDTVProfitLive
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TVTranscript
00:00 Today we are looking at the white paper that the Finance Minister presented yesterday to
00:07 Parliament which captures 20 years of the Indian economy and the struggles and the successes.
00:14 Your first thoughts on the same thing.
00:18 So there are three aspects that I thought I would highlight about the white paper.
00:24 First, it's a very data intensive exercise that clearly shows the ups and downs of the
00:34 Indian economy over 20 years.
00:37 The second aspect which I liked particularly was that it shows the impact of policy on
00:45 good and bad policy on economic growth by separating out the extraneous factors.
00:53 And let me elaborate on that.
00:55 For instance, if you look at the growth that happened from 2004 to 2009, that was a period
01:02 when the global economy was booming.
01:04 This was before the global financial crisis.
01:07 And as we all know, a rising tide lifts all boats.
01:11 And at a time when the Chinese economy was, for instance, was growing at about 12%, the
01:18 Indian economy grew as well, not because of necessarily good policy, but because the global
01:23 economy was doing very well.
01:25 Relatedly, as well, another extraneous factor which must be taken into account and that
01:30 comes through very clearly as well is the policy that was implemented by the previous
01:36 government, that will be Harivajpayee government.
01:39 And the white paper shows, for instance, the ratio of capital expenditures to GDP in that
01:44 government was 30%, which declined to 16% during the 2004 to 2014 period.
01:51 So the lagged effect of capital expenditure on growth was also felt in the 2004 to 2009
02:00 period, benefited from that.
02:02 So that's the second aspect that I like, which is the focus on the impact of policy and removing
02:10 the extraneous factor or highlighting the role of extraneous factors.
02:14 The third aspect that I like is the focus on macroeconomic fundamentals.
02:20 And for instance, if you look at the inflation, the current account deficit, the foreign exchange
02:25 depreciation during the tapered torrent from episodes, these are aspects also that have
02:33 been highlighted.
02:34 For instance, the average inflation was close to 9% in the 2004 to 2014 period, while it's
02:41 been about 5% in the period since then.
02:45 If you look at the currency depreciation in the 2012 tapered torrent from episode, it
02:50 was close to 15%, while it's been less than 1%, about 70 basis points in the 2021 episode.
02:57 And I think related to that, I want to highlight is also the way the two crises in these periods
03:04 have been handled.
03:05 The last 20 years, I've seen two big crises, the global financial crisis and then COVID
03:09 crisis once in a century pandemic.
03:11 And unlike India becoming part of the fragile five, with a very high fiscal deficit, very
03:17 high current account deficit, and double digit inflation every month for 18 months, peaking
03:23 at 17%, 18%, India becoming part of the fragile five.
03:28 Now India has become part of the top five economies because of a much better policy
03:31 response.
03:32 So overall, I think these three things that stand out, the data intensiveness, the focus
03:37 on growth, impact of policies on growth, and the focus on macroeconomic fundamentals.
03:42 Absolutely.
03:43 You know, so that's a very interesting aspect to compare the two, though, of course, the
03:49 document presented by the finance minister lists 46 items which were not managed properly
03:58 at that time, or which went out of control as opposed to some 40 odd items where, you
04:05 know, the current political regime has done very well.
04:08 But that's a political argument.
04:09 Let me focus on the economics or the economy part of this.
04:14 The global crisis, let me take our viewers back, the effect by the end of 2007 till about
04:23 2010-11, I think was unprecedented.
04:26 You know, it's something that we have not seen in this modern era.
04:29 This absolutely, you know, did not spare any country, but it would have been very tough
04:34 to manage, but still we got away with small bruises.
04:38 How would you respond to it?
04:40 No, I think, you know, it's important to highlight that India, you know, did not face the impact
04:52 of the crisis immediately, but by, you know, using policies that were more or less a cut
04:59 paste of what the, you know, the advanced economies were doing, primarily, you know,
05:05 a very large demand side stimulus.
05:07 And this is something that I've always, you know, articulated.
05:11 While economic trade-offs remain the same across countries, boundary conditions are
05:16 different.
05:17 And having been a business school professor, I sort of understand the supply side of the
05:20 economy very well.
05:22 One of the things that stands out is that supply side frictions, you know, we economists
05:27 use this term basically to, you know, to focus on the fact of when supply does not respond
05:33 immediately.
05:34 Supply side frictions are far more salient in a country like India than in advanced economies
05:38 like the US.
05:39 And, you know, by doing a demand side stimulus, using the crisis as a reason to actually,
05:46 you know, really expand significantly on revenue expenditures, you will remember the, that
05:51 the farm loan waiver that was, you know, about 65, 70,000 crores at that time, a very large
05:57 by far among the, I think possibly the largest farm loan waiver among, you know, emerging
06:04 economies.
06:05 That kind of spending, which, and I have a research paper that, you know, and World Bank
06:08 study also shows that it did not benefit the, you know, the real beneficiaries, poor farmers.
06:14 So that kind of largest, that kind of wasteful spending is what then eventually led to very
06:19 high fiscal deficits, inflation and high current account deficits.
06:23 So I think our policy response, you know, was really bad post the global financial crisis.
06:29 Yes, we escaped it.
06:30 We could have actually done really well, you know, if the policy response had been, had
06:34 been far better, but it wasn't.
06:37 Right.
06:38 Okay.
06:39 So I really agree with the point that, you know, almost 60, 65,000 crore was given away
06:44 in the form of doles to the farmers.
06:48 But then I guess that was the need of the hour, but whatever the intention might have
06:52 been, the benefits did not reach.
06:54 Now, of course, because of the digital, digitalization of the economy and financial inclusion, people
07:00 are getting what they deserve.
07:03 Let me now fast forward a little bit, say 10 years from there, you know, two of the
07:09 biggest problems that we had, you know, again, today is the pandemic followed by the adverse
07:16 global situation that we are facing, which roughly started by say 21 end or so.
07:23 You were there at the helm of the economy in terms of advising the government and the
07:29 prime minister.
07:30 That would have been a tough period.
07:32 How did you manage that time frame?
07:35 So Murali, before I respond to that question, I think, you know, our viewers need to understand,
07:40 I do not agree that it was the need of the hour.
07:42 I think, you know, if we look at the capital expenditure spending that has been, that had
07:48 been done, you know, in the previous government, the Vajpayee government, you look at the capital
07:52 expenditure spending that's been done, you know, from 2014 onwards, contrasted to the
07:57 2004 to, you know, 2014 period.
08:00 I think it's very clear that actually that, you know, the 2004 to 2014 period, the government
08:05 then believed far more in doles and I think and, you know, not necessarily the need of
08:11 the hour, because if you look at, for instance, revenue expenditure, you know, it grew at
08:15 an annual rate of over 14% during the 2004 to 2014 period, while, you know, capital expenditure
08:25 basically grew only at, you know, about 5%.
08:30 In contrast, in the current period, it has grown at 17.5%.
08:31 And let me, you know, now tie in with the question that you mentioned.
08:35 Look, you know, during the, during COVID, every advanced economy just did a demand side
08:40 stimulus.
08:41 So using that, this government actually could very well have said it is the need of the
08:45 hour and just, you know, done revenue spending and, you know, offered that as an excuse,
08:50 but it did not and instead focused on capital expenditures.
08:54 And that's where I, you know, come back to, I think a key point that our viewers need
08:58 to understand is that, you know, when government spend on capital expenditures, you know, a
09:05 rupee that is spent on capital expenditure to the economy anywhere between four to five
09:10 rupees gets added, you know, in four or five years.
09:14 In contrast, when, you know, a rupee is spent on revenue expenditure, only 94 paisa gets
09:20 added to the economy, in other words, five to six paisa gets wasted, gets lost.
09:25 And that's the kind of multiplier.
09:26 So this is a choice that governments make, you know, the watchpay government, you know,
09:32 before 2004 made the choice of spending on capital expenditure, 30% of GDP was spent
09:38 by the, you know, by the then government.
09:40 In contrast, from 2004 to 2014, the choice was made to do, you know, to give dose and
09:47 revenue expenditure.
09:48 So I think we have to be very careful to not give a free pass to governments that do not
09:53 spend taxpayers' money well, which is what was the case with, you know, 2004 to 2014.
09:58 If after all, it is our money, and we should be asking if, you know, if you're taking,
10:02 you know, our money and, you know, by spending one rupee and accumulating only 94 paisa for
10:09 the economy, in contrast, you could have actually accumulated five to six rupees by spending
10:13 on capital expenditure.
10:14 I think the taxpayer has every right to ask the question, why would a government make
10:19 such an inferior choice to actually the superior choice of spending on capital expenditures?
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13:33 >> Let me focus on the crisis that we had during pandemic and you came out, you brought out, you were the architect of the $5 trillion economy paper.
13:46 Now, since then, what has gone wrong? What's coming in the way of us achieving and how long will it take?
13:54 >> Let me highlight for the benefit of our viewers, the important difference in the policy response that we had during COVID compared to the policy response,
14:05 our own country's policy response during the global financial crisis and compared to the advanced economies policy response during COVID.
14:14 In March and March, April of 2020, we identified very clearly that the COVID crisis, because it was a once in a century pandemic,
14:25 the previous pandemic of this nature was a Spanish flu pandemic of 1918.
14:29 This will have impact on supply.
14:32 The key question was because for the first time, governments were asking their citizens to stay back at home.
14:39 And we then assess that there'll be an impact on supply.
14:42 Therefore, what we did was a very balanced response on the supply and demand side with demand side stimulus being very targeted to the poor and vulnerable sections.
14:54 And not just like the 65,000, 70,000 crore farm loan waiver that was very poorly targeted.
15:02 And I think the economy now is reaping the benefits of that because you have to keep in mind that unlike demand side stimulus,
15:09 where as soon as a check is given, let's say our money is deposited in the bank accounts, people start spending it, demand gets perked up.
15:16 But supply actually takes time.
15:19 Unless you anticipate with foresight and start building these assets, it takes time to build assets and supply takes time.
15:26 And that's where India benefited from identifying the crisis very clearly.
15:30 Now, as for the $5 trillion economy, I think two key parts that contributed to one, of course,
15:37 during the year of COVID, the global economy itself shrunk at close to 5%.
15:44 And countries like India, which were growing at growth rates are higher, of course,
15:51 because of lockdowns that were required at that point in time, we had to take a hit on growth.
15:57 And that's why one of the reasons why the target became later.
16:01 Second, and I think it is also important to understand, and I had covered this in great detail in the 2019-20 economic survey,
16:10 which the white paper also talks about is the banking sector problems, the crony lending.
16:16 And as a result, the bad assets that had built up, the dual balance sheet problem,
16:21 which resulted in very low investment rates for a long period pre-COVID.
16:27 And you would recall that $5 trillion economy, the strategic blueprint that we laid out,
16:34 talked about the virtuous cycle starting from investment.
16:38 And investment slowed down because of the stress in the corporate and the banking sector balance sheets.
16:45 And that is what led to growth decline.
16:48 Now, you would recall, for instance, there were many commentators pre-COVID who were saying
16:53 when the growth had declined at that time, oh, there's something structurally wrong with the Indian economy.
16:58 You know, it's encountering the middle income trap, this and that.
17:02 And at that time, I'd actually mentioned there's nothing wrong with the Indian economy.
17:06 It is the overhang of the financial sector problems.
17:10 And I also highlighted that whenever problems start from the financial sector,
17:15 the overhang of that is much longer than when problems start in the real economy.
17:21 And that was the case because of the real bad handling of the banking sector.
17:28 Again, this was an aspect of the 2004 to 2014 period.
17:34 So these two contributed to the goal for the $5 trillion economy actually having to be pushed back.
17:41 My sense now is that I think in another three years, we should be reaching that goal.
17:48 But I would say that our goal is not just to grow to $5 trillion.
17:53 India wants to grow much beyond.
17:55 And by 2047, we actually hope to be a very large economy among the top two or three in the world.
18:03 That's my expectation, given the kind of reforms and the focus on capital expenditure,
18:09 infrastructure creation that has been put in place now.
18:13 Yeah, I agree. It's always important to set goals and work towards those goals and not keep stepping back.
18:22 The important question, let me focus on the current situation.
18:27 Whether it's a $5 trillion target or a $6 trillion target, that doesn't matter.
18:32 We have to keep growing at a certain pace.
18:35 My two-part question here is, one, in the current scenario, everything is resilient.
18:40 We have managed to control many things.
18:43 But the most important part is that the cost of the funds.
18:46 Even yesterday when the RBI governor was talking, the narrative was very, very clear that he is going to keep a tight grip on inflation and liquidity.
18:59 And he gave us an indication that, look, in the next six months, he didn't say it in so many words,
19:04 it will take at least three quarters to think about a rate cut, which means that we have to live with high cost.
19:11 Now, from here to transition and create a platform.
19:15 So this also comes in the way of the targets, right?
19:17 How would you view and assess the situation right now?
19:22 So I think, you know, what you've highlighted, Murali, is a very important point.
19:26 And I actually will, you know, read that question in a broader perspective, in general, in terms of bank lending.
19:33 You know, one of the aspects that, you know, most of us, especially financial economists, reckon is that if we want growth of X in the economy,
19:47 credit, you know, typically and especially credit for investment should be growing at about 1.5X.
19:54 You know, that's like a thumb rule that is typically, you know, in other words, if we want our GDP to be growing,
20:00 let's say at, you know, 7% plus or 8%, we want, you know, the credit to be growing at 12%, you know, 13%.
20:08 And credit growing in a sustained manner, not in the kind, you know, in the way, for instance, you know, in the 2010 to 2014,
20:18 you know, that period credit grew at 20%, but it was actually bad credit creation, a lot of crony lending.
20:24 We don't want that. And that's really important.
20:27 Here, I actually want to highlight in general, you know, while cost of funds is one aspect, to me, the bigger aspect is, you know,
20:38 the kind of quote unquote technology, when I say technology, I mean all aspects of, you know,
20:45 the infrastructure that our banks have in being able to tackle what we economists call the adverse selection and moral hazard problems.
20:54 Whenever, you know, a bank lends to a borrower, be it a corporate borrower or a retail borrower,
21:00 what they have to be worried about is credit risk. And that's where the adverse selection and moral hazard problems come in.
21:05 And here, I think, you know, if we look at not just in the last few years, but look at a longer period,
21:11 if you take India versus South Korea, you know, in the 1960s, let's take 1960 and let's take 2020.
21:19 In 1960, you know, private credit to GDP ratio in India was 8 percent.
21:26 And in South Korea, it was 6 percent. In other words, South Korea was lagging behind us in.
21:32 And South Korea also actually nationalized its banks, by the way. It wasn't because of necessarily because of nationalization.
21:38 But if you look in 2020, the private credit to GDP ratio of South Korea is close to 180 percent,
21:45 while India's private credit to GDP ratio is only 58 percent.
21:49 You can see, you know, in other words, they've actually more than three times, you know, in terms of the lending that they've done.
21:54 And where have these loans gone? You know, South Korean firms, especially in manufacturing, have gotten a lot of credit.
22:01 South Korean firms that do a lot of exports got credit. And therefore, you know, today, if you, you know, when we think about cars,
22:08 we actually think about buying, let's say, you know, a South Korean car, maybe a Daewoo or Hyundai, etc.
22:17 But, you know, it's not the reverse. It's because credit, actually credit creation has happened in a much better way in South Korea.
22:27 And that has furthered investment, thereby significant economic growth.
22:31 You know, in our book, Money, a Zero-sum Game, we talk about this at length, that banks need to really, you know,
22:38 understand their role as money creators in the economy.
22:43 And when they, you know, create, give credit to people, to entrepreneurs, to individuals who have, you know, very good projects,
22:52 then in the process, they actually, you know, really further economic growth in the economy.
22:59 And that's the point that I think it is really an imperative for India for credit creation to really happen in a significant manner.
23:08 Because even the 58% private credit to GDP ratio is in some sense, you know, it's an overestimate because, you know,
23:15 that includes a lot of lending that happens to large borrowers who necessarily, you know, may not be the best credit.
23:26 For instance, if you look at some other individuals that still do not get credit in India,
23:31 there are large sections, you know, who are credit rationed.
23:34 So these are aspects that we need to be focusing on.
23:37 To me, the cost of capital is actually only one part, because I know, you know, of relatives of mine who would be willing to pay 11%, 12%,
23:46 and, you know, they basically run small businesses, you know,
23:50 if a public sector bank is willing to lend to them, they'd be more than happy to pay that 11%, 12%.
23:55 In other words, at the margin, the cost of capital matters.
23:59 But I think far more what matters is actually credit creation,
24:03 especially to those, you know, who haven't gotten credit from the, you know, from the formal financial sector.
24:10 I think that's the issue that I would really highlight.
24:13 For India to grow at, let's say, 8%, you know, consistently high quality credit creation has to happen at 12%, 13%, you know, per annum.
24:22 And this is where our banks need to be investing far more in technology, you know,
24:28 in being able to assess credit risk very well, you know, and tackle the adverse selection and moral hazard problems of borrowers.
24:37 Everyone else, you know, whether it's a JP Morgan index or MSCI index or the FBIs, they're all pouring money.
24:44 The only change that is not happening is from the rating agencies.
24:49 Indeed. Let me, you know, I have absolutely no hesitation in mentioning, Murali,
24:55 that the rating model that these sovereign rating agencies have for sovereign rating is a flawed model.
25:01 You know, and as a financial economist who taught this for a living, when you think about the credit rating,
25:10 credit rating is finally just a one to one mapping to the probability of default.
25:15 And what is the probability of default a function of its function of two things?
25:19 It's the ability to repay and the willingness to repay.
25:23 When you take willingness to repay India's, you know, India has never, ever defaulted on its obligations.
25:29 Even in 1991, when we faced our worst balance of payments crisis,
25:33 we actually shipped gold to the Bank of England and to the Bank of Japan to actually borrow foreign exchange from them for our imports.
25:40 So, you know, the willingness to repay is gold standard.
25:44 Now, when it comes to ability to repay, you know, I've already mentioned that, you know,
25:48 our tax revenues and our the growth rate actually is much higher than the nominal rate of borrowing.
25:55 So and most importantly, 100 percent of our debt is rupee denominated.
26:01 We have not gone and borrowed in foreign exchange, you know,
26:05 a foreign currency like the Latin American countries did or, you know, some of our neighbors have done.
26:10 And therefore, our ability to repay is also gold standard.
26:14 And that should be the way rating should actually be looked at.
26:18 In contrast, what we have with the sovereign rating agencies is a flawed empirical model that puts an extreme amount,
26:25 a very high amount of weight on GDP per capita.
26:29 Why? Because it's a regression based model that was implemented, you know, in the 1960s,
26:34 when the, you know, many of the advanced economies were the ones that actually had high ratings.
26:41 And so they retrofitted that, you know, that that characteristic.
26:44 But, you know, the post-global financial crisis is being shown.
26:47 Countries with very high GDP per capita have defaulted, you know, on their obligations.
26:52 So and if you go and correlate the rating agency ratings, sovereign ratings to default,
26:58 the correlation is very weak, unlike in the case of corporate rating.
27:01 So I have absolutely no hesitation in saying that the sovereign rating agency model is flawed and they need to correct that.
27:09 Our investors, I think, you know, and this they see through this, that, you know,
27:13 whether it was during the global financial crisis, you know, some of the subprime, you know,
27:17 and these syndicated loans, the rating agencies were wrong.
27:21 They're wrong here as well on the on the sovereign credit ratings.
27:24 Absolutely. On that note, I think, Dr. Subramanian, you have hit the nail on the head when it comes to the rating agencies not recognizing us.
27:33 And we have to do what we have to do to reach the target.
27:37 Thank you so much for joining us and taking our viewers through your thoughts on the economy,
27:42 on the growth and the comparison of the previous government and the current government and the way forward.
27:48 Thanks once again.
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