There is a rumour going around, (actually several related rumours) about the Indian economy. The most important rumour pertains to GDP growth in India: in particular, that because of some nimble and astute policies followed by the monetary authorities, GDP growth in India has suffered manifestly less than other countries, and perhaps even the least.

As evidence, look at the year on year GDP growth recorded for Oct-Dec 2008 – 5.3 percent. Not bad when most of the world has the same number but with a negative sign!

In my previous article (Business Standard, March 3, 2009, Back to the `Hindu’ Rate of Growth) I had offered some evidence to suggest that the rosy picture about present GDP growth may be incorrect. Towards this end, I supplied evidence showing that seasonally adjusted annualized (SAN) numbers are the more valid and globally accepted numbers in calculating GDP growth, but the response has been one of dismissal, at best. How do I get the SAN numbers? Don’t the seasonal adjustment factors fluctuate wildly from quarter to quarter? (They don’t). Don’t the seasonal adjustment factors depend on the technique of estimation rather than the underlying reality? (No).

Okay, let us believe the counter-factual and accept that monetary policy has been successful. What is known about this policy is that it has been unduly strict, and tight, and mean. This is why the inflation rate has been brought down from 13 percent to zero. But then, if nobody denies that the policy has been strict, then why has the growth rate not suffered? Of course it has, counter the apologists, but because of our fine tuning it isn’t down to less than 5.3 percent. But wait a minute – isn’t it the case that the whole world, and I mean the whole world, has inflation down to zero, if not negative, levels? And aren’t interest rates also down to near zero 2 levels? If so, what was special about Indian policy? Good, so you agree that our monetary policy had precious little to do with the “success” in reducing inflation (whether measured by the GDP deflator or the WPI; see below on the CPI) to zero.

Now moving onto India’s GDP growth. Can you tell me why, when the whole world has been hit by a shock (the greatest on a world wide basis not since the Great Depression but including the Great Depression) that we in India have been relatively immune? Oh, because we managed our banking system well – didn’t you hear that Ms. Sonia Gandhi stated that our effective facing down the crisis is a tribute to the wise(st) policy of bank nationalization initiated, co-incidentally, by her mother in law Indira Gandhi in 1969? Yes, I did hear that, but never mind.

No, but what was successful about our banking system? That it was prudently not allowed to take risks, was not unduly leveraged, was guided by the Finance Ministry to make worthy investments, etc. Hence, domestic policy has cushioned the worldwide shock. Admittedly, India was helped by the global environment in reducing inflation, but India has helped itself in terms of the growth shock through good policy. Last question, going forward, don’t you expect GDP growth to slow down because of the extremely prudent, but tight, monetary policy that we have
followed? After all, we do have the highest interest rates in the world – a lending rate of 13 percent, inflation at zero. Contrast that with China, or the US, or anywhere else – a lending rate of no more than 5 and inflation at zero?

You make several mistakes in that assertion/forecast. First, CPI inflation is still around 10 percent. (Yes, but for the last several months, inflation rate has been no more than 5 percent annualized, and coming down). Second, cutting interest rates is like pushing on a string; India is in the midst of a liquidity trap. But, Sir, hello, since when was a 13 percent lending rate or a 5 percent policy rate considered a liquidity trap? Which economist (whether sensible or not) ever said that?

The debate goes on. As everyone knows, you can’t win a policy argument with a policy maker anywhere in the world, let alone an argumentative Indian policy maker. But we can look at the facts, as best we can. The respected quasi-governmental organization, OECD, collects and disseminates data on all the OECD countries, and several developing countries. (Data available from www.) Among the various data it publishes are the quarterly GDP growth rates, seasonally adjusted and annualized. The table reports the GDP growth rate for the Oct-Dec quarters 2007 and 2008 and the final column is the deceleration in these growth rates for each economy. Note 3 that by looking at the decline in growth, one is capturing the differences in inherent, or potential, growth rates. The decline (or increase) estimates how well an economy has performed given a common external shock.

The Indian policy maker expectation would be that the decline in GDP growth rate in India should be one of the lowest in the world. Wrong. The Indian economy is among the worst (6th from the bottom among 27 countries) with a value of -11.8 percent. This number is obtained as follows: Growth in 2007, 4th calendar quarter, 8.2 percent. Growth in 2008, 4th calendar quarter, -3.6 percent. Decline in growth rate, -11.8 percent.

So much for great policy making in India. But there is a better flip side, for the future. If and when the world economy recovers (more a question of when) maybe bad domestic policy will not be such a great hurdle, just like “good” policy for India was not such a great advantage! Which means that we can look forward to low inflation and accelerating growth in 2009/10 with, or without, helpful domestic monetary policy. Perhaps even 7 to 8 percent. Vive le globalization!

How well have countries coped with the Great Financial Crisis?

Source: OECD
Notes: The GDP growth figures are for the quarter indicated over the preceding quarter; all figures have been seasonally adjusted and annualized by OECD.