Aggregate demand more elastic to rate of interest changes: Michael Patra

Michael D Patra

The aggregate demand in the economy has become more elastic to changes in the real interest rate after the twin shocks of the pandemic and the war in Ukraine, Reserve Bank of India (RBI) Deputy Governor Michael D Patra said in a co-authored article.

However, the RBI clarified that the views expressed in the article do not represent the views of the central bank. The article is part of the RBI bulletin, which is a monthly publication authored by the central bank's staff that offers insights into key developments in domestic and global economies.

With global growth momentum appearing to be stalling, especially in manufacturing and investment, the headline inflation is moderating with a stubborn core, according to another article in the bulletin.

India's headline retail inflation rate snapped its four-month falling streak and rose to 4.81 percent in June from 4.31 percent in May, pushed up by a rise in vegetable prices and fading away from the favorable base effect, data released by the Ministry of Statistics and Programme Implementation on July 12 showed.

At 4.81 percent, the Consumer Price Index (CPI) inflation print for June takes the average for the first quarter of 2023-24 to 4.6 percent, in line with the Reserve Bank of India's (RBI) forecast.

"Manufacturing and services activity remains in expansion albeit with some sequential moderation in June. The overall balance of payments improved in Q1:2023-24, indicating that financial flows comfortably exceeded the current account again on a quarterly basis.

Market expectations of future interest rates have gone up in response to the hawkish policy stance; equity prices have flattened; and bond yields have hardened. In India, the rain deficit is rapidly closing amidst a highly cyclone-skewed distribution," it said.

A sustained improvement in the quality of public spending through a higher share of productive expenditure can play a conducive role in supporting growth, according to an article in the RBI bulletin.

With the states accounting for 60 percent of general government expenditure and 70 percent of general government capital outlay (adjusted for defense spending), they have an important role to play in India's growth story. Empirical findings suggest that an improvement in the expenditure quality of states leads to higher Gross State Domestic Product (GSDP) growth, highlighting the pivotal role of states' expenditure quality in fostering growth.

India's real GDP needs to grow at 7.6 percent annually over the next 25 years to achieve the per capita income level required to become a developed economy, an article in the RBI bulletin said.

"India must rebalance its economic structure by strengthening its industrial sector so that its share in GDP rises from the current level of 25.6 percent to 35 percent by 2047-48. Agriculture and services activity would have to grow at 4.9 percent and 13 percent per annum, respectively, in the coming 25 years, with their sectoral shares in GDP at 5 percent and 60 percent, respectively, in 2047-48," it said.

Meanwhile, India needs to follow a multipronged approach to absorb the large pool of labor force productively and harness growth opportunities in knowledge-oriented sectors through sustained policy focus on structural reforms, infrastructure, logistics, digitalization of the economy, and upskilling the labor force.