Reforms have run their course. Will 2020 be a year of payoffs?

Renu Kohli

The New Year unfolds against the backdrop of successive and steep downgrades of India’s growth. Policy coffers have emptied out, there’s little left in reserve.

On the reforms front, an apparent hesitation of the government to undertake deep, difficult structural changes suggests the possible closure of this space too. There is now little left for policymakers to do but to watch and wait for the accumulated reform actions and policy stimuli to give back returns. That’s the best hope for the Indian economy in 2020. It is also the base that the pick-up predictions for 2020 build on.

India’s GDP growth forecasts for this financial year cluster around 5 percent, down from 6.8 percent a year ago. Thereafter, most predict the economy to pick up. Private consensus growth forecasts expect real GDP to recover into the 6 percent-plus zone in 2020-21.

The Reserve Bank (RBI), which scaled down its GDP growth projection thrice in 2019, expects it to average 6.1 percent during April-September 2020, according to its latest December forecast. The International Monetary Fund (IMF), which predicted 6.1 percent real GDP growth in 2019-20 followed by 7 percent next year in its October forecast, recently pointed to a sharp downward revision when it comes out with an update in January 2020. Possibly, these revised forecasts may match the existing trend.

The economic optimism, however, is presumed on the stimulatory policy and reform effects unfolding in the medium term. On the monetary side, a cumulative 135 basis points easing since February 2019 is yet to spread out. Backing this are the external benchmarking of banks’ loan rates, other facilitating measures for transmission of interest rate cuts to the last mile and steps to ease access and enhance credit supply for specific marginalised borrowers.

In addition, the fiscal reforms and regulatory measures taken by the government since September are expected to breathe life into sentiment, restore consumption and private investment. These include the lowered business taxes, partially eased labour regulations, recapitalisation and consolidation of public sector banks, sector-specific measures to alleviate stress in non-bank, real estate, MSMEs (Micro, Small and Medium Enterprises) and export segments, among others.

Parallel developments in the last quarter indicate significant narrowing of the macroeconomic policy space. These may even have closed already, or could do so in coming months. The monetary policy review earlier this month saw the interest rates easing cycle pause. The central bank, however, remained accommodative and assured the existence of more monetary space to cut rates.

But the sudden and rapid rise in households’ inflationary expectations on the back of food prices and their possible interactions with countercyclical fiscal stimulus and other price developments have cast uncertainty about the future path of inflation. The RBI would like to be surer, hence the pause. The possibility of the monetary policy hitting the limits ahead cannot be ruled out should food inflation spill over on to other constituents.

The evolving fiscal situation has tightened, too. A steep slide in direct and indirect tax revenues has induced significant resource constraints. The government is unable to meet committed GST (goods and services tax) dues to states. It is hard to visualise acceleration in divestments of such a magnitude so as to fill the enormous financing gap.

The probability of breaching the budgeted deficit is very real -- the RBI Governor indicated in a recent interview that conditions are apt to allow fiscal slippage. But the steady rise in bond yields since the monetary review due to higher inflation and fiscal risks has complicated matters as this could vitiate the monetary easing effects and prove counterproductive. Any further fiscal boost to prop up an economic recovery could be difficult under the circumstances.

The outstanding structural reforms from September, i.e. viz. corporate tax cuts and easier, standardised labour regulations are expected to encourage investment. These moves, however, also indicate the extent to which the government is ready to go as far as structural reforms are concerned.

While lower corporate taxes have been widely welcomed, the relaxations in labour laws are commonly regarded inadequate. There is increasing disappointment that the long pending and deeper reforms in land and labour markets are not forthcoming even when a political majority is achieved. Expectations in this dimension are getting blunted.

At this point, it appears that policies and reforms have reached the end of the road. Under the circumstances, there is not much choice except to wait for returns from past reform actions and the substantial amount of stimulus that is there within the system. If this plays out as almost all forecasters predict, then 2020 could turn out to be a year of payoffs.

Renu Kohli is a New Delhi-based macroeconomist. Views are personal.