India’s gross domestic product ( GDP) growth has dropped to 4.5% in the July-September quarter of 2019-20, a free fall from the government’s ambitious call for a double-digit growth not so long ago. Propelling India into a $5 trillion economic behemoth by 2024-2025 also seems implausible now. What is alarming, though, is that even this 4.5% of growth might be an overestimation given the many infirmities in India’s revised GDP estimation methodology.
In order to understand what led to this slowdown, we must understand the fundamentals of macroeconomics equations.
GDP = C + I + G + NX (X-M)
C = Consumption expenditure
I = Investment
G = Government expenditure
NX = Net exports (Exports – Imports)
Arvind Subramanian, Chief economic adviser, argued that India is facing a Twin Balance Sheet Problem (TBS). He pointed out that the balance sheet of Indian banks are burdened with increasing NPA, and the corporate balance sheet is also distressed due to over-borrowing. The origin of the twin balance sheet problem can be traced back to 2009. It was a period of great economic prospects and the economy was growing in double digits. As such the companies borrowed heavily in anticipation to make more profits. During the Boom period, the management authorities of these companies were confident of the new ventures and projects. But when Bust struck the economy, the fresh operations backfired. The financial catastrophe of 2008 brought it all crashing down making a large number of projects undertaken by companies non-viable. The syndicates couldn’t even repay the interests on the borrowings. Thereby, banks were left with huge loans that had turned duds. Due to the twin balance sheet problem, the ‘I’ component of the growth took a dip and the global financial crises also had an impact on the global demand thus reducing the ‘NX’, but India was quite fortunate as the GDP growth just dipped in 2009 and then was back at 9-10% in the succeeding years(2010-2011).
From 2013-2016, the companies were in no position to invest, therefore the ‘I’ component of the growth went down, which further struck the Indian economy was sluggish global demand. So the ‘NX’ component above also weakened, resulting in the Indian economy suffering it’s worst slowdown in over a decade with a growth rate of just 5% over 4 quarters.
During the period 2015-2016, there was a sharp decline in the crude oil prices to one-third of what it was in 2014 which resulted in more disposable income in the hand of the people, therefore, increasing the ‘C’ component of the growth and keeping the economic growth on track.
In the year 2017-2018, due to depreciation of the Indian rupee, amounting to at least 13% in real effective terms by late 2018, there was a huge increase in the ‘NX’ of the country which helped bump up the economic growth and there was also a sudden increase in government expenditure. Last but not the least the growth of the Indian economy was boosted by the lending spree by the NBFC’s.
What exactly derailed the economy in the year 2019-20, could be narrowed down to two broad but interlinked reasons. One: the unsolved twin balance sheet problem and, second: the fall of NBFC’s. Together, they make the four balance sheet problems of the Indian economy. Owing to TBS, credit unions were no longer competent to further advance capital and due to the crackup of NBFCs, there was a decline in the ‘I’ part of the economic growth. Government expenditure was also overstrained. However, the component ‘C’ has been progressively weaker since 2017 and is the main worry now. The ‘NX’ has been down since the great fiscal mire, barring some positive moments when the rupee depreciated quickly.
With unemployment on its peak in 45 years and weak demand being the prominent reason for this slowdown, the Indian government should encourage more schemes such as rural employment guarantee programs, although the government has made sincere efforts in pepping up people to spend more by making significant changes in tax slabs introduced in this year’s budget with virulent plague — COVID-19 accompanied by YES bank failure, it will become a tricky job for the policymakers and the economists to revive our economy.
A pandemic will lead to permanent social, economic, and cultural changes. The key is to create good from a bad situation.
Article by – Samarth Khurana
Edited by – Akshat Kumar Jangir