Challenges before the new government…

Even-though the macro economic environment of the Indian economy has improved in the last six months and the present government has managed to avoid a ratings downgrade for the economy, but the next government after general elections 2014 will still find it difficult to steer the economy on the high growth trajectory, 8% growth rate… A good rating improves foreign investment in the economy therefore these days every country tries to maintain it in order to keep its status good as an investment destination. It is true that fiscal-deficit and current account deficit has come down but inflation and high interest rates are still impediments to growth.

Moreover, reduction in diesel and fertilizers subsidy will reduce pressure on the government but will put further pressure on inflation, few basis points… Subsidies keep the expenditure divided between the government and the public but in case of government subsidies means more tax on the public and less demand for the Industry therefore the task before the next government is to target expenditure better… For a better rating fiscal deficit targets are to be achieved, but inflation is also an important determinant of policy… Policies that create inflation are not warranted… but the problem is every rupee spent by the government creates inflation, it is an income to some body and with the supply side constraints it is supposed to stoke inflation further…

Supply side constraints are supposed to be the major roadblock in following the course of 8% growth-rate, especially supply of food-stock of which the government has enough stock, even for exports, we need to curb exports a little and increase supply to the domestic market, food has a high percentage in our CPI index and reduction in the prices of food-stock would give the central bank more room for monetary easing, lower interest rates for the Industry. Inflation should be the major point of focus of all policy decisions.

Although the government has succeeded in containing current-account-deficit by curbing gold imports but the demand for reducing import-tariff on gold has increased as we have succeeded in bringing CAD to sustainable levels. Moreover, smuggling of gold since the government has increased import-duty points that the country would again move to gold imports as tariff comes down. Gold is an important investment asset and works well when the stock-market losses its attraction… People invest in gold during slowdown… And, same as other investment assets high-inflation can reduce the real value, purchasing power of gold and can make it unattractive compared to government bonds, especially inflation indexed bonds… Inflation can make investment assets unattractive because of negative real returns but it reduces the value of debt which is good for the borrower, he has to pay less in real-terms, inflation adjusted terms. Therefore, the current situation in INDIA indicates a good condition for investment, but I do not think that many people in the Industry know about real rates…

Moreover, the economy should be prepared to weather the end of quantitative easing in the US which will negatively affect the economy, foreign exchange inflows to the economy will be low which will also make the Indian currency tumble, depreciate to an extent, but good for the domestic economy because it will create demand for exports, reserves would improve, employment will go up. But, too much depreciation will make imports expensive and will increase inflation, especially oil...

The investment cycle in INDIA is at its bottom and the investment we are seeing in the stock-market is mainly foreign capital, and, the biggest challenge for the upcoming government will be to revive that cycle. An investment cycle depends on the monetary policy by the central bank. When interest rates go down investment cycle goes up and when interest rates go up investment cycle goes down. We in INDIA are going through a down-cycle because the RBI is tightening interest rates due to high inflation CPI. The central bank in INDIA is trying to bring inflation close to its target 2-6%, it has increased the key rates three times since our new Governor took charge and given the recent inflation level the RBI is expected to increase the key rates by at least 200 basis points under Taylor-Rule perspective. INDIA is still far away from reviving the investment-cycle, atleast 6-8 months if we discard the Urjit Patel Committee suggestion to bring inflation down at 8% by January, 2015 and to 6% by January 2016 and try to bring inflation down as soon as possible. Even if a new government comes to power the Indian economy will atleast take a full-year to bottom-out the investment cycle and revive the economy. We should bring prices down as soon as possible to kick the investment-cycle. Inflation in INDIA is a supply-side problem and only a determined government can implement reforms that can bring inflation and interest rates down...

Nevertheless, corruption has been the all time issue for Indian Politics and hope that the new government at the center would work to keep that stigma away…