The Paradox of Thrift

The Paradox of Thrift


In recessionary times, the natural inclination of every individual is to cut back on unnecessary expenses, pay back debt, postpone non-essential purchasing. This seems like virtuous belt-tightening, but if enough people join this particular bandwagon, the economy as a whole begins to tank. John Maynard Keynes called this phenomenon, “the paradox of thrift”. That is why George W Bush advised people to do their patriotic duty after 9/11 and told them to go out and shop!

But what is afoot in India is not the consequence of domestic thrift leading to a significant slow-down, but a mugging of growth owing to a national economic bungling on the grand scale.

Our economic deceleration is because of a wilful miscalculation on the part of the UPA Government. And it may never have come to light, except for the global economy collapsing. As Warren Buffett said, “Only when the tide goes out do you discover who’s been swimming naked”.

But since there is never a cloud without a silver lining, what we are now witnessing is a scramble to reverse gear and cut every conceivable interest rate and cautionary reserve in sight, in a bid to resuscitate a faltering economy.

What is even better for India Inc. and the Indian public is that both the UPA and the Opposition NDA are in competition to devise ways and means to revive growth. But before we go to the presumed glories of the future, let’s take a look at how we came to be at this pass.

Flying in the face of all sage advice and commentary barely a year ago, Finance Minister P Chidambaram and former Reserve Bank of India Governor YV Reddy, relentlessly tightened interest rates, raised cash reserve ratios, put curbs on participatory notes, raised statutory liquidity ratios, reduced rates on NRI deposits, curbed external commercial borrowing, intervened in the currency markets to weaken the rupee, and did all else in their power to suck out liquidity, strangle growth, and barricade India against dollar inflows.

In their wisdom, the UPA wanted a weaker rupee to ostensibly aid exports, even though we have a huge infrastructure led and modernisation-based import bill, not to mention a 70 per cent dependency on oil imports. Side by side, the UPA was also announcing large expenditures such as the farm loan waiver, and other largesse aimed at targeted voters in rural India. The Government was also subsidising the rocketing petroleum prices, not with a hit on the current year’s budgetary books, but with sleight-of-hand Oil Bonds, to be paid for by future generations.

All these policies collectively resulted in growth strangulation, juxtaposed with sharply raised expenditure, leading to vast increases in current account and fiscal deficits, stoking the very inflation the government was trying to curb! When they wrote “Pop goes the Weasel” in the 17th century, they must have had personages like the current UPA money-managers in mind.

The irony is this fixing-things-that-weren’t-broken policy, was unleashed, when we were thriving. Business and Industry were reporting good results. The stock market was booming. India Inc. was busy going international with mergers and acquisitions, and even agriculture was doing far better than the year before. The Indian economy, as a whole was growing at a projected 9 per cent for fiscal 2008.

Growth decompression, said the government, affects only India Inc. And our inflation, they said, was due to runaway, speculative demand in the domestic economy; whereas it was mostly the sharply spiking price of oil, over which, India, doing nothing to curb its demand, had no control.

Oil prices have now halved, thanks to the global financial meltdown and subsequent fall in demand, and ergo, our WPI inflation rates have been tending downwards over the last five weeks.

But by now, our GDP growth estimates are at 7 per cent for 2008. We have a recession in the Real Estate segment. There are grave threats of consumer defaults on home, car, and credit card loans/debt.

Business and Industry too are forced to borrow at 14 per cent and above, if they manage to borrow at all, particularly in the medium to small sectors, impacting their margins, and forcing the postponement of modernisation and expansion.

Infrastructure projects, always grappling with the twin problems of long execution and payback periods, have been unable to raise money in the distressed global markets, and can’t get any money from the tight local credit markets either. They are all at a standstill. And, let us realise, when it comes to infrastructure, this impacts not just fiscal 2008 or ‘09 or ’10, but casts a shadow on projected GDP growth well into the future!

The BJP economic think tank, comprised of former finance ministers Jaswant Singh and Yashwant Sinha and former disinvestment minister Arun Shourie, have called for a raft of urgent measures, some old, some new, to get things going. They want drastic action, beyond the stage-by-stage 250 points CRR cuts and somewhat tentative 100 bps Repo rate cut, announced by the Government so far.

The BJP has called for Repo interest rates to be cut by a further 200 basis points to a much healthier 6 per cent by March 2009. And by way of a brand new suggestion, they have called for a strengthening of our public sector banks with a USD 10 billion rights issue to augment their USD 40 billion footprint collectively. This is intended to boost their lending power to domestic business and industry.

The BJP has also aired some protectionist ideas, such as a banning of short-selling and PN notes with regard to the stock market, and accounting calls to acknowledge off-budget debt on the books. The BJP also wants a Sovereign Wealth Fund created with our foreign exchange reserves and the money put to fund our infrastructure development, instead of languishing in US Treasury Bonds.

In any event, the two major political groupings seem to be pointing in the same direction for once, coming down once again in favour of growth. But, no one has a magic wand, and all need to bear in mind that monetary measures always work their effects after a time lag.

So perhaps, the next time around, no Indian Government will be so casual about killing the golden goose of growth, and eschew their periodic urge to bite the very hand that feeds.


(1,053 words)

October 21st, 2008
Gautam Mukherjee

Published in The Pioneer on Wednesday,October 22,2008 as "The wages of misplaced thrift" and online at www.dailypioneer.com. Also see it archived under "Columnists" at www.dailypioneer.com