What should India’s response be? This is not a time for freebies or a big fiscal stimulus. The government’s focus must shift from spurring economic growth to armour-plating the economy against a possible global crash. Fiscal caution should replace adventurism. The Reserve Bank of India (RBI) should let the rupee weaken: India needs a competitive currency, not a strong one. The sharp worsening of the current account deficit is a warning that must not be ignored.
The global situation is utterly uncertain. Optimists hope the Ukraine war will end, global inflation will be tamed, interest rates will come down, and the world economy will boom. In that case, India can become aggressive in pursuing growth. But pessimists may be right in fearing a sudden worsening of the Ukraine war, a new virulent Covid strain, or a deep global recession caused by continuing high inflation and high interest rates.
If matters worsen, the global view of India can change in a trice from ‘resilient’ to ‘fragile’ and a trillion dollars can pour out of the country, similar to what happened in the so-called ‘taper tantrum’ of 2013. Just six months before the tantrum, India was boasting of miracle economic growth and huge dollar inflows.
The current account deficit had worsened sharply to over 4% of GDP, but most analysts ignored that as a blip. Some even welcomed it as a sign that an investment boom was pulling in large imports of capital goods. Alas, without notice the global mood turned from sunny to stormy, the exchange rate crashed from Rs 55 to Rs 65 to the dollar, and new RBI Governor Raghuram Rajan had to devise innovative schemes to turn the tide.
How does India look today compared with then? In 2013-14, the combined fiscal deficit of the centre and states was 7% of GDP. This is much worse today, at 10%, and is ground for caution. A sharp rise in global oil prices spurred inflation and the current account deficit in 2013, not dissimilar from what happened in the latest June-September quarter.
On the brighter side, inflation is one indicator in which India is much better off today than in 2013. Inflation then had crossed 10%, against today’s 5.7%. More important, India’s inflation rate is currently lower than in the US or Europe, the very opposite of the situation in 2013. This is comforting.
Market analysts are hopeful. They think the current account deficit of 4.4% of GDP in the July-September quarter was a blip caused by rising commodity prices, which have subsequently reversed. This, in turn, explains the equanimity with which markets have taken the latest terrible data on the current account. Some optimists interpret today’s high current account deficit sign as evidence of an investment boom that will help sustain high GDP growth.
In sum, the case for pessimism is far from watertight. Maybe all will be well. But there is an old saying, hope for the best but prepare for the worst. It is easy to reverse policy from caution to growthmanship. But if you start with growthmanship and fail, reversal can become impossible save after considerable damage. India learned that in 2013 and needs to remember it today.