After the euphoria of the early years of the current century, the Indian economy has been struggling in its attempt to boost the growth rate of its national income. Fleeting glimpses of 7.9% growth achieved in the fourth quarter of 2015-16 may have raised hopes temporarily; however, it now increasingly appears that we are clueless in reviving the economy and pushing the GDP growth rate towards the coveted double digits. Every succeeding quarter brings a longer wait and we are perennially clutching at straws in seeing evidence of expected, but as yet elusive, surge in the GDP.
Statisticians typically estimate national income on the basis of demand, comprising personal consumption, investments, government expenditure and exports less imports (current account surplus). Growth can be revived by increasing one or more of these demand constituents.
The Indian consumer has over the years not been shy of spending his hard earned income on various goods and services, ensuring robust consumption. However, a long period of economic downturn, together with demonetisation and other disruptions over the last two years, have been a dampener. The impact of sluggish consumer spending are being felt in a wide range of industries. It would be unrealistic to depend now on increased consumption to enhance economic growth.
Given the current financial position of the government, fiscal deficit too cannot be relied upon to play this role. Any deterioration in the government finances is likely to adversely impact our rating with the credit rating agencies besides raising inflation. The Indian economy continues to pay the price of the artificial fiscal stimulus naively undertaken in 2012-13. The current government has displayed commendable savvy, reining in fiscal deficit over the last four years. Abandoning such prudence will be counterproductive.
During the earlier period of high growth from 2003 to 2008 that we keep yearning for, exports were a big lever for economic push, having grown at 23% per annum. That looks unlikely to be repeated given the fact that our merchandise exports have been practically stagnant at $300 billion over the last six years. Any reliance on exports to get us out of the mess is unlikely to prove successful. The sector faces fundamental, structural issues that cannot be expected to be resolved any time soon.
That leaves private investment as the only wheel that can be relied upon to break free of the shackles. Investments as a proportion of the national income have come down significantly from the peak of 38.70% achieved in 2007-08. The billion dollar question to be answered is, what will revive investments and take it back to the pre-crisis era?
Most ideas to revive investments in the Indian economy are based either on misplaced hopes or incorrect appreciation of economic theory and logic, leading to a widespread belief that a turnaround of the Indian economy is around the corner. Even well respected global organizations such as the World Bank and the IMF join in the charade.
There is a broad consensus that private investments must increase substantially, for the Indian economy to experience sustained high growth. What the usual analysis fails to take into account is the critical role played by “the animal spirits” in influencing investments that the business community undertakes.
It is widely believed that investments are an outcome of dispassionate analysis, of discounted cash flows, internal rate of return and net present values. That may sound good in theory; reality, as always, turns out to be very different. The future is uncertain and investing large sums in long term projects is a brave and at times, a foolhardy decision. It is a significant leap of hope. What ultimately drives the corporate sector and the business community to loosen their purse and make investments in projects, where cashflows will accrue in the future in an uncertain environment, are “the animal spirits”.
The term was initially coined by John Keynes who used it in his book ‘The General Theory” referring to the “spontaneous urge to action rather than inaction”. It refers to the emotions and the feelings that guide the behaviour of investors and consumers in a market economy.
In their book titled ‘Animal Spirits’, Nobel laureates George A Akerlof and Robert J Shiller, describe five different aspects of the animal spirits like confidence, fairness, corruption and anti-social behavior, money illusion and stories. They place great emphasis on confidence about the future to unleash animal spirits.
Such confidence depends on whether people feel that good things will happen in the future, that they will be treated fairly and that their interests will be taken care of. If the rules of governance and societal attitudes are loaded against them, they would be reluctant to invest in new ventures.
It is in this context that the present state of the Indian economy and the opportunities to invest must be evaluated. The recent past, starting with demonetisation, has been highly disruptive. I am not getting into the justification or otherwise of the different actions, but the outcome of a series of such policy measures has been very obvious – suppression of liquidity, depression in demand, disruption in supply chains and a looming uncertainty.
The psychological impact it has had on people’s thinking and behavior is likely to be long-lasting. Subsequent to demonetisation, a series of further disruptive policy measures such as the introduction of the Goods & Services Tax (GST), the Real Estate (Regulation & Development) Act (RERA), attack on shell companies, and resolution of non-performing assets (NPAs) under the Insolvency & Bankruptcy Code (IBC) have combined to deal a deathblow to human psychology and confidence. Taken together, they have created a doubt and an uncertainty that business abhors. It has not helped that major scandals such as the Punjab National Bank (PNB)-Gitanjali Gems and other bank scams have come to light, denting confidence even further.
The current government has displayed a tendency to control and direct rather than enable and encourage. It likes to bulldoze, a term popularised by Union Minister Nitin Gadkari but aptly reflective of the attitude of the Indian government towards its people. It behaves like a child with a hammer to whom everything appears to be a nail and the child keeps hammering all the time at whatever catches his fancy. The government has made it a habit to come down heavily on various issues of misdemeanors, perceived or real, with all its might.
The result is there for everyone to see – suppression of animal spirits in the economy. If I am unable to use money that rightfully belongs to me because 85% has just become illegal with one wave of NAMO hand, why will I take the risk of investing? The rules of business keep changing; there is no certainty about the future. Irrational and retrospective taxes have always been a real threat to the business community. Predatory pricing by a large corporate house may change the dynamics of the entire sector, as has happened in telecom. The dairy and the leather sectors find themselves unable to carry on normal business due to what can only be termed as ‘cow politics’. Real estate, already suffering for years, finds it difficult to conform to new regulations under RERA. Sector after sector are in bad shape, mostly induced by policies that fail to take into account the intrinsic nature of business.
The resultant lack of private sector investment is not surprising, apprehensive as the industrialists are of possible whimsical action on the part of the government. Any semblance of a stable, steady and supportive business environment is missing. The confidence of the business community is marred by a patronising attitude and an intrusive behaviour that kills animal spirits.
If we wish to boost private investments and the growth rate, it is imperative that we reignite the animal spirits in the economy. Governance is not about sermonising, telling people what to do and how to behave but of creating an environment of hope and expectations. There needs to be certainty about policies, economic or otherwise. Industrialists are partners with the government in this endeavour and not adversaries to be treated with suspicion. An appreciation of the animal spirits and its role in unleashing investments and even consumption, is essential before Indian economy can revive.
Without that, I am afraid, the drought in investments will persist for a long time to come and economic growth in India will continue to struggle as it has been doing. Any hopes to the contrary are misplaced.
(Sunil Mahajan, a financial consultant and teacher, has over three decades experience in the corporate sector, consultancy and academics.)