Economic outlook darkens

The government that assumes power after the election results has its work cut out for it on the economic front.
First, there is the global economic slowdown. The International Monetary Fund (IMF) estimates global economic growth at 3.3 per cent in 2019. That’s down from 4 per cent in 2017 and 3.6 per cent in 2018. 

Global growth of 3.3 per cent is not a crisis. But two developments that have followed the IMF’s forecast could make things worse for the world economy. The US-China trade war has escalated. Tensions between the US and Iran have risen to a dangerous level and this has pushed oil prices to over $70 per barrel. If the situation in West Asia worsens, analysts see oil prices touching $100 per barrel. 

Secondly, tax revenues for 2018-19 have disappointed. Revenues have fallen short of revised estimates by ~1.6 trillion. The government will have cut capital expenditure sharply towards the end of 2018-19 in order to contain the fiscal deficit. The effects on growth will be felt in 2019-20. Tax revenue projections for 2019-20 too will have to be scaled back which, again, will mean cuts in capital expenditure. 

Thirdly, the Non-banking Financial Company (NBFC) crisis has been contained but it hasn’t gone away. Public sector banks have played an important role in preventing a collapse partly by buying up some of the NBFC assets and partly by increasing loans to the better quality NBFCs. But the crisis of confidence in NBFCs persists. The better ones can access funds at higher rates than before but not the weaker ones. The housing and consumption goods sectors have been adversely impacted by the problems at NBFCs.

Fourthly, the pace of recovery under the Insolvency and Bankruptcy Code (IBC) process has been well below expectations. Many PSBs were hoping to return to the black in a big way on the back of recoveries from the 12 top corporate accounts that had been sent to the National Company Law Tribunal (NCLT). This hasn’t happened. Credit growth at public sector banks (PSBs) would have been higher had the expectations on recovery been met.

In the short-run, the economy has to reckon with the cumulative effects of a slowing global economy, higher oil prices, cuts in government capital expenditure, problems at NBFCs and constraints on credit growth at PSBs. GDP growth in FY 2019-20 is poised to fall below seven per cent. This is clearly not the best of starts for the next government.

What positives or mitigants do we find in the situation?

A big positive is the willingness of the central bank to loosen monetary policy consequent to the change in leadership last December. Annual consumer price inflation was 2.9 per cent in April, so inflation is hardly a concern at the moment. The combination of low inflation and weakening growth strengthens the case for a policy rate cut in June. 

Secondly, the infusion of capital into PSBs and the exiting of six banks from the Prompt Corrective Action has helped boost credit growth. Banks’ non-food credit grew at a healthy 14 per cent in March 2019 over the previous year. However, the share of industry in non-food credit has declined by 1.7 percentage points in the period. The share of retail loans has risen by 0.9 percentage points and of NFBCs by one percentage point. If manufacturing is to be revived, the flow of credit to manufacturing, especially to small and medium enterprises, needs to improve. For PSBs to take the necessary risks, they need a more comfortable level of capital. The government must infuse at one go whatever capital is required instead of providing it in driblets.

The great white hope for the next government must be the Bimal Jalan Committee on the economic capital framework for the Reserve Bank of India (RBI). The committee can provide a shot in the arm to the government by settling for a lower level of reserves at the RBI, whether contingent reserves or revaluation reserves. If the former, the committee will be putting cash in the hands of government. If the latter, by extinguishing some of the government debt, it will be opening up space for more government borrowing. Either way, the government will have room for manoeuvre in what is otherwise a tight situation.

R Gandhi on Yes Bank board

There could be no sorrier comment on the state of governance at private sector banks than the RBI’s appointment of Mr R Gandhi, former deputy governor, to the board of Yes Bank. 

The appointment comes in the wake of several decisive interventions the RBI has made in respect of private banks. The promoter of Yes Bank was ousted from the board. The grapevine has it that the RBI had a role to play in the appointment of its new CEO. The former CEO of Axis Bank was refused an extension despite one being offered by the bank’s board. Both the government and the RBI seem to have had a hand in the appointment of the present Chairman of ICICI Bank.

In 2014, the PJ Nayak Committee on bank governance had recommended that the government be distanced from the appointment of CEOs and independent directors of PSBs. We are now in a situation where the government or its arm, the RBI, cannot distance itself from top appointments at private banks. What do we make of the contention that privatisation is the answer to poor governance at PSBs?
/> The writer  is a professor at IIM Ahmedabad. ttr@iima.ac.in