The Slowing Economy and Inflation


The Indian Economy has been slowing for the past couple of quarters.

Which is really unfortunate, as this country needs rapid GDP growth of not less than 9 to 10% on an ongoing basis. In fact, it should be the fastest growing economy in the world, even faster than China.

That was what the world had expected of India.

But India could not deliver that kind of growth, not even the 7.5% that was widely projected.

Now, it is clear that achieving a 6.5% GDP growth in FY 12-13 (April 2012 to March 2013) is going to be hard and required concerted coordination amongst all players – industry, investors, workers, government and the central bank.

The challenge for the central bank (called Reserve Bank of India) has been the persistent inflation both at the wholesale and retail levels. When inflation is still higher than 7%, how would it be possible for the central bank to reduce interest rates ?

The challenge for the consumer has been control of discretionary spending. Non-discretionary spending cannot be reduced in most cases as that would cover the basic needs of living. Discretionary spending has been on the rise in India over the past decade, in tandem with the rapid economic growth rate. People started to aspire for the good things in life (which generally tend to be expensive), the global brands, the fashion items that they have long denied themselves. There is nothing wrong with that – the basis of Indian economy has always been consumer consumption, unlike many far eastern economies which depend on exports as their main driver for the economy.

With its huge middle class, India offers a big market for items which fall under the category of discretionary spend. Many global brands have established themselves well in the country (single brand retail is allowed into the country), and have stirred demand from the rich and middle class folks who, in the past had to travel abroad to get those same goods.

Now, with the slowdown, the first things that gets the ax is the discretionary spend, as the purchases that fall under this category are not essential for living. These can be deferred and one could wait for the next chance to buy the desired item.

This phenomenon is going to depress the consumer demand when India needs more consumption to drive its economy. The interest rates on bank loans which have been kept high do not allow easy credit to consumers who would like to fund their purchases with easy loans.

Given this current situation in India, it is unlikely for the economy to pick up rapid growth again, whether or not the government is going to launch new incentive programs for global investors. Many things are hanging without a resolution such as the corruption scandals, and the policy paralysis continues. So, we should not expect a quick economic correction, though it is entirely possible to be achieved with a firm governmental intervention.

Since we do not see that as an option due to coalition political compulsions at the central government, we have to get used to slowing consumer consumption and a slowing economy going forward. The only silver lining is that the industrial production could start to pick up soon, and that would be a good thing for India.

Let us see what happens over the next 60 to 90 days.

Cheers,

Vijay Srinivasan
22nd July 2012
Mumbai

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