New challenges put reforms on ice in India

Women wearing masks wait to receive medical attention for suspected H1N1 influenza at a hospital in Pune August 4, 2009.

NEW DELHI (Reuters) - Rising food prices and a possible drought. Swine flu and a damaging corporate war. Even a diplomatic setback with rivals Pakistan.

Three months into office, India's ruling coalition is besieged by a slew of crises, undercutting the momentum from a resounding election victory and making it harder to carry through bold promises of policy change and economic reforms.

"The government is on the back foot. Its priorities have to shift to giving relief from the drought and high food prices," said V.K. Sharma, head of research at Anagram Stock Broking.

"In this situation policymaking can take a backseat and any spending to cushion the farm sector from the drought will widen the (fiscal) deficit. All the talk about a clear election mandate allowing the government a freer hand is now gone."

Many investors, however, remain optimistic for the longer term and are hopeful that India ultimately will push through measures that will open the insurance, banking and retail sectors to overseas players and bring labour reforms to help companies.

The Congress party, which heads the ruling coalition, returned to power for a second term by a wider-than-expected margin in May, freeing it from the communists who scuppered many reforms in exchange for their support to the last government.

There are signs of new initiatives. The new government has signed off on key policy moves, including plans for a new tax code that could cut corporate taxes, a food security law and promises of free primary education for all.

It has also moved ahead with stake sales in state-owned companies, with power company NHPC recently raising $1.25 billion in an initial public offering, while Oil India plans a listing to raise as much as $600 million.

Stimulus measures have helped the economy and demand for goods such as cars has signalled stable consumer confidence.

But several challenges have thwarted the new government's momentum.

TESTING TIMES

Most notable of these challenges is the failing monsoon that is increasingly being characterised as a drought. (See graphic at: here)

Others include:

- Last month, Prime Minister Manmohan Singh was accused by the opposition of giving away too much to Pakistan in a joint statement on fighting militancy.

- The government's role has also been called into question in a high-profile battle over a natural gas pact between the billionaire Ambani brothers, a spat that critics say could sour foreign investor sentiment.

- India's stomach for liberalisation is being tested over the question of whether to bail out the country's ailing national airline. Private carriers briefly threatened to stop flying for one day to protest a lack of relief from the government for the sector.

- The swine flu outbreak, which saw schools and cinemas closed in the financial capital Mumbai.

"What we can expect is that the government will drift along while the crises persist and not set any timetable for action," said D.H. Pai Panandikar, head of private think tank RPG Foundation.

TEMPORARY DISTRACTIONS?

A test of the government's performance comes up in state elections later this year, which may spur it to first concentrate on providing relief from the drought and rising food prices to revive its political momentum.

The government announced a 100-day plan when it took power, promising to accelerate growth to counter the effects of the global downturn and to invest in infrastructure, among other measures.

"So far as the performance is concerned, it's a light and shadow combination," said Panandikar. "They have done some things but could have done better."

Some foreign investors say the setbacks are temporary.

India expects economic growth this year of least 6 percent, foreign investment remains steady, and industrial output for June surged at an unexpectedly high at 7.8 percent.

"It's too early to say it (the government) is faltering," said Michiel van Voorst, Robeco's senior portfolio manager in Hong Kong.