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India Facing Major Challenges

Retail prices of petrol and diesel have soared to their highest levels in over three years even as world crude costs have tumbled more than half
With private-sector investment in the doldrums because of a debt pile-up and excess capacities, the government has been spending heavily on large infrastructure projects.With private-sector investment in the doldrums because of a debt pile-up and excess capacities, the government has been spending heavily on large infrastructure projects.

The raging bullish fervor in Indian equities faces a tough test as New Delhi grapples with the dilemma of battling a downturn in economic growth, amid rising public anger against increase in prices, particularly fuel, when household budgets are under strain and the jobs scene remains dismal.

Retail prices of petrol and diesel have soared to their highest levels in over three years even as world crude costs have tumbled more than half. Heavy taxes by both the central as well state governments have made fuel prices in India the highest in the world, pinching the pockets of the middle class and the poor the most, news outlets reported.

Economic growth has been slowing for five quarters, rocked in part by demonetization and the launch of a new national sales tax. Growth in April-June slumped to the weakest in more than three years, while retail inflation in August accelerated to a five-month high on the back of a jump in food prices.

“It’s like burning a candle from both ends,” said an executive at one foreign fund, who did not want to be identified. “Slowing growth and rising prices portend a deadly cocktail that can trigger widespread public discontent.”

Barclays said in a report released on Friday that it expected India’s GDP growth in 2017-18 to slow sharply to 6.9%, from the 7.8% it had forecast earlier, saying there were multiple roadblocks and the June quarter data was a “downside surprise”.

Multiple Roadblocks

Acknowledging there was a problem, Finance Minister Arun Jaitley held several rounds of discussions with officials and others, and said the administration was considering stimulus measures. A formal announcement on the policy details is expected after Modi’s approval. Media reports, quoting unnamed mandarins in New Delhi, say the government is contemplating a stimulus package of between Rs400 billion ($6.17 billion) and Rs500 billion.

There are many pitfalls, however. With private-sector investment in the doldrums because of a debt pile-up and excess capacities, the government has been spending heavily on large infrastructure projects such as highways, metro rail systems, housing, ports, airports and so on hoping this would act as a catalyst to generate jobs and encourage manufacturing units to come up.

Hectic spending has taken a toll: In four months, from April to July, the fiscal deficit reached 92% of the budgeted figure for 2017-18. In other words, the government is running out of cash, and will have to find cash from divestments and taxes quickly to avoid overshooting the deficit target of 3.2% of GDP.

Tax receipts are likely to lag because of the slowdown, especially in the manufacturing sector. The teething problems with the new Goods and Services Tax show no prospect of resolution almost three months after the launch, including filing of returns.

To make up the shortfall, the taxes on fuel are indispensable for the central and state governments, irrespective of whichever party or coalition is in power.

Economic Challenges

The economy is facing multiple headwinds and there is a need to attack them on various fronts, Chief Economic Adviser Arvind Subramanian said on Saturday, Zee News reported.

"We have lots of challenges ahead... We have seen growth slowing down and investment not picking up. So, we have to attack this problem on many fronts—exchange rate, public investments while maintaining macroeconomic stability," he said. He also identified stressed assets as a key area of concern.

His statements came soon after the government decided to give him a one year extension.

On the appreciation of the rupee, Subramanian said all emerging economies face this problem, with a surge in capital inflow putting pressure on the exchange rate.

"All countries struggle with this challenge. Different countries take measures based on their trade-offs and objectives. What the RBI has been doing is to stem appreciation of the rupee," he pointed out.

The big appreciation in the rupee between January and April impacted both exports and imports, he said, adding that the RBI has been intervening in the forex market for the past three months. He is hopeful of moderation of forex in coming days.

 

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