India in inflation crisis; not in favour of rate cut: NIPFP

Ajay Shah, Senior Fellow, NIPFP is of the view that since India is in a bad inflaiton crisis, there is no case for a rate cut by the Reserve Bank of India (RBI) as of now.

"India has been in a sustained high inflation ever since February 2006. People look at Wholesale Price Index (WPI) inflation and think that things are better, but inflation measure that matters most is Consumer Price Index (CPI), which is dangerously close to double digit," he said in an interview to CNBC-TV18.

Meanwhile, the HSBC Manufacturing Purchasing Managers' Index (PMI), which gauges business activity in Indian factories but not its utilities, feel to 50.1 in May from 51.0 in April, and was the third straight monthly fall.

According to Shah, India is facing an investment slump now. The scenario is as bad as the depth of the 2000-2001 period. So, the government has to aggressively push reforms and boost confidence of private sector, he added.

Also read: Q1 GDP to remain flat; 25 bps rate cut likely in June: HSBC

Below is the verbatim transcript of his interview on CNBC-TV18

Q: GDP data, decadal low was a shock, but the Purchasing Managers' Index (PMI) numbers today, which is perhaps a more reliable indicator even if its secondary data indicates that we are at a 50-month low as far as the PMI numbers are concerned. Are you getting a sense that we are going to remain in a sluggish growth phase for a fairly longish period, maybe for the next two-three years?

A: It is not clear. Sometimes this could turn around fairly quickly; sometimes it could be more sluggish. We have two examples before us. After the great investment boom of 1996, we got into a downturn from 1997 and we spent 5 years in that and the economy really revived in 2002.

In a similar fashion we got into a downturn in 2008 and all through calendar 2008, the economy was weakening sharply. Then we had bit of an eruption in 2009-2010, but it proved to be a false start and we are still doing pretty badly. The numbers are looking as bad as the depth of the 2000-2001 period.

Q: So your sense is we maybe perhaps two thirds of the way into the slowdown if we compared it with the 1996-2002 period?

A: I do not want to overstate the analogy. We know very little about how these things evolve.

Q: What is your sense in the current year itself? I know you do not really like the Central Statistics Office (CSO) data very much, but you have your own corporate analysis. What is the sense you are getting? How much better might FY14 be over FY13 if at all?

A: Conditions are quite bad. The number one symptom is that we have an investment slump. The investment slump is two parts. One is the story that Cabinet Committee on Investment (CCI) is working on and they have been making progress, but the trouble is that they need to do a lot more in terms of hard numbers before it will shake the economy. India is a big country now. Rs 1 lakh crore sounds like a lot of money, but it is a small fraction of GDP. So the process has begun with CCI, but we need a lot more vigour in pursuing that debottlenecking of investment.

The second and deeper problem is that the private sector is gloomy and I think that is the biggie. The heart and soul of investment is confidence of the private sector. If the private sector feels good about the future they will invest. Today the private sector is feeling gloomy and this takes you back to deeper reforms.

I want to make an odd statement. The private sector needs to believe that India has a bright future, because we will build factories and we will start investments that will yield results over a long time. For this reason when the government embarks on policy projects that will even yield result over a long time. It has a big impact on private decision making today.

So, we should not be too short-term in looking for quick initiatives. We should go after really important thing and the competence and the policy vision of the government in pursuing the projects that matter for India. We would like to see the government doing more of Goods and Services Tax (GST) and less of Food Security Bill. That is what will give confidence to the private sector.

Q: What have you made of the recent weakness that we have seen in the rupee?

A: It is an inevitable side effect of these jitters. The way India is going today we have a big Current Account Deficit (CAD). We are dependent on the kindness of strangers; we need the investors from all over the world to be putting money in India.

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Every time there is a hiccup in the prospects for India you get an interruption of this steady flow of capital that is required everyday to fund the CAD. So the finance minister, P Chidambaram is absolutely right in focusing on CAD and on capital flows, because we depend on that daily flow. We need something like Rs 2,000 crore everyday to keep CAD funded. Every time you get jitters about what is going on India, we will get sharp impact on rupee.

Q: Is your sense that the CAD problem is on the decline? We have had some advantage because of global crude prices falling. Gold price fall at the moment does not seem to have yielded much of gain. Anecdotal evidence seems to suggest that the gain in price is made up by a rise in volume. Ultimately CAD has to come down because of domestic initiatives, are you seeing that sustained effort playing out in the economy?

A: In the macroeconomic perspective the CAD is the import of capital - is the gap between savings and investment. The most important initiative that the government can undertake to make a difference to the CAD is to do fiscal consolidation. There the recent news is remarkably good. The government is delivering on its promises and in fact it is going a little better.

I have been really pleased at the data of the last few days on the fiscal performance and that is where we will ultimately get the CAD back under control. We need to work hard on pulling back the fiscal ship.

These are the linkages that are not adequately talked about.  I think many people know them, but more people need to appreciate these relationships that it is because we achieve a fiscal consolidation the CAD will come down and the CAD is what drives the jitteriness of the rupee.

Q: Would you be extremely jittery if before the fiscal year is out the Food Security Bill is passed? Are you sure that the initiative will be maintained or are you having doubts given the realities of electoral politics?

A: I am not an expert on the political considerations. I was reasonably pleased at what was announced in the Budget speech. The Budget speech kicks all the way to May 2014 because there will just be vote on account and that was a nice platform to build on. The Ministry of Finance is correctly focused on fighting the fiscal battle. I do not have a judgement on the extent to which electoral compulsions will interfere.

Q: The market is expecting a 50 bps rate cut by the RBI. If we do get that hypothetically, do you think it will do much for growth? What would be the incremental impact on the back of these rate cuts for FY14 growth?

A: I am really uncomfortable with this consensus that is developing. India is in the midst of a bad inflation crisis. We have sustained high inflation ever since February 2006 onwards. When you look at the tradables' inflation which is global prices multiplied by the rupee-dollar exchange rate, it is about to start getting worse. People are looking at Wholesale Price Index (WPI) inflation and thinking that things are better, but WPI is really not inflation. The inflation measure that matters is Consumer Price Index (CPI). CPI inflation is dangerously close to double digit territory and has been stuck for a long time.

We are in a bad inflation crisis and this is bad for GDP growth. How can people make plans for the future when inflation is around 10 percent? So if we want high growth we have got to get inflation down. I feel that the RBI should be held accountable for delivering on low and stable inflation and they need to do more. So, I am not in favour of rate cuts today. Inflation is more important than we think.

Q: Has the trajectory of CPI begun to give you any kind of relief at all, because it has come in a bit lower in the last reading?

A: No. The trouble is there is a tradable shock in the pipeline. If you look at world commodity prices multiplied by rupee-dollar exchange rate, you can already see that in last two months there is a sharp change. So this is coming. It is coming with probability one and it is going to feed through into local inflation.