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Country Report India

Country Report

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India’s parliamentary elections in April-May are the focal point of the news at the moment. Even though these elections will likely put the opposition in power, significant policy changes are not expected.

Strengths (+) and weaknesses (-)

(+) Demographics

In the coming years, India will enjoy the benefits of a growing working age population, the so-called demographic dividend. This should give a boost to economic growth, especially in a world where several major economies are facing an ageing population.

(+) Large, diversified economy

India has a large, diversified economy, which limits its vulnerability to external shocks. Even though the agricultural sector employs the majority of the population, the large services sector accounts for almost two-thirds of GDP.

(-) Infrastructural bottlenecks and difficult business environment

Infrastructural bottlenecks are estimated to reduce GDP growth by one to two percentage points per year. Businesses also face hurdles in the form of red tape, corruption and state intervention.

(-) Political fragmentation

The fragmented political environment, in which regional topics often dominate over national issues, hinders decisive government action. Moreover, the federal structure of India often complicates decision making and implementation of new policies. 

Key developments

1. BJP favourite to win the polls…

Elections for the Lok Sabha (lower house) will be held in April and May this year and will likely bring a new coalition to power. The current coalition, led by the Congress party, lost popularity over the inability to execute economic reforms and their involvement in several major corruption scandals. The opposition Bharatiya Janata Party (BJP) is favourite to win the elections that will run from 7 April through 12 May (results are expected on 16 May). BJP is a right wing, Hindu nationalist party, which is generally seen as more business oriented than the Congress party. Narendra Modi is the leading figure in the BJP campaign and he is most likely to land the position of prime minister if his party wins the elections. Modi’s popularity is strongly based on his record of economic reforms as chief minister of the state Gujarat. However, he is also criticized for his controversial role in the 2002 riots in Gujarat, in which several hundred Muslims were killed during widespread violence. While Modi was officially cleared, this reputation makes him a controversial figure, especially among Muslim voters. Still, Modi’s image of economic reformer and the unpopularity of the Congress make the BJP the favourite in the elections. The BJP will not win an outright majority and will thus have to form a coalition.

Besides a BJP-led coalition, there is also the possibility of a Third Front government. Eleven left-wing and regional parties have formed an alliance to present an alternative to the main political parties. With no shared ideological ground, this group has little more in common than simply opposing the incumbents, which does not bode well for decisive policy making. Even though pre-election polls in India are notorious feeble, which means that BJP’s lead could not be as great as the polls suggest, the chance of a sustainable Third Front government at India’s helm is not the most likely scenario. One regional party has already withdrawn support after disagreement over seat sharing and more internal fractures are to be expected. More likely is that regional parties gain a strong position vis-à-vis the BJP and Congress in the coalition-making process.

2. … but this is unlikely to lead to significant changes

A BJP-led coalition is expected to take a more business-oriented approach. However, as a necessary coalition will likely include several regional parties - which tend to have their own agenda related to issues in their home state and are often reform-sceptic - the basis for consensus on more controversial issues might be small. As a result, progress is expected in areas where the central government has regulatory power, such as the oil and gas sector. This could bode well for a reduction of fuel subsidies, which would have a positive effect on the budget deficit. But as soon as reforms require action from both state and central governments or include the transfer of power from state to central government, finding a supportive majority could prove to be challenging. This will likely be the case regarding reforms of the labour law and the mining and electricity sectors.

A BJP-led government is expected to be less focused on fiscal consolidation than the current government. The current budget (FY 2014-15) is expected to meet the 4.8% of GDP deficit target as promised. Admittedly, this can only be reached thanks to strong non-tax revenues and deferred spending, which puts the next government at a disadvantage even before it starts. The current fiscal consolidation stance is strongly linked to Finance Minister P. Chidambaram, who will likely not return in a BJP cabinet, and to the threat of a downgrade of India’s sovereign credit rating to below investment grade. However, the general economic weakness has now taken centre stage in the judgement of the rating agencies, thereby reducing the need for the next government to emphasize fiscal consolidation.

3. Economic growth still lacklustre, but inflation is easing and external position is improving

India’s economy is struggling to get back on steam. Economic growth in the third quarter of the fiscal year 2013/14 (Oct-Dec 2013) was again below 5%. At 4.7% yoy, the economy even slowed from the 4.8% yoy registered in the previous quarter. India’s economy suffers from continued sluggish demand, a weak business environment and high borrowing costs that hurt investment - which contracted by 1.1% yoy – in particular. The news about inflation and the external position was good, though. On the back of declining food and fuel prices, the WPI (India’s main measure of inflation) eased to 4.7% in February, which was a nine-month low, and CPI even hit a 25-month low in February (at 8.1%). This might convince the central bank to leave policy rates on holds for now, which would support the struggling economy. The current account deficit decreased on the back of administrative measures that curbed the import of gold while exports were stimulated by a cheaper rupee. The current account balance is thus in better shape than last summer, when international market movements send the rupee to record lows.

Figure 1: Economic growth still struggling
Figure 1: Economic growth still strugglingSource: Institute of International Finance
Figure 2: Current account balance is improving
Figure 2: Current account balance is improvingSource: EIU

 

Factsheet of India
Factsheet of IndiaSource: EIU, CIA World Factbook, UN, World Economic Forum, Transparency International, Reporters Without Borders, World Bank.

Background information

India is an extremely diverse country with large regional differences, a huge gap between rich and poor, and very diverse economic sectors. Per capita income was about USD 1,500 in 2012 (USD 3,900 in PPP terms). India’s Planning Commission reported that in 2011-2012, 25.7% of the rural population and 13.7% of the urban population lived below the national poverty lines (which are lower than the World Bank’s standard of USD 1.25 per day). Although India is still home to more undernourished and poor people than all of sub–Saharan Africa, progress on poverty reduction has been impressive when India’s rapid population growth is taken into account. While many countries face a shrinking and/or ageing population, India will benefit from a growing working-age population in the coming decades. This could be a catalyst for growth but also a source of social unrest. The agricultural sector is very important to the rural community. Although it only produces 18% of GDP, about two-thirds of the population depends on this sector for its livelihood. At the other end of the spectrum there is the world-class IT sector that is a major driver of the services sector. India has a federal structure and many subjects have been delegated to state governments. At the central level, the Indian National Congress (Congress or INC) and BJP are the main parties. However, there are also many regional parties that have seats in the national parliament. As these parties have a strong focus on the interests prevailing in their home constituencies, their priorities often greatly differ at the national level. There is frequent social unrest and occasional communal violence in some parts of India. Often these areas have a strong tribal presence and/or religious and ethnic tension. 

Economic indicators of India
Economic indicators of IndiaSource: EIU
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