(The author is a Reuters Breakingviews columnist. The
opinions expressed are his own)
By Andy Mukherjee
SINGAPORE, April 16 (Reuters Breakingviews) - India needs a
Japanese-style reset. For the country to decisively escape from
its self-constructed trap of extreme economic pessimism, New
Delhi needs to import the spirit of Abenomics.
The advice may appear counterintuitive, considering that new
Japanese Prime Minister Shinzo Abe's strategy of aggressive
fiscal and monetary easing is the opposite of the policies India
should pursue. But at its core, Abenomics is about hitting an
economic reset button so that corrosive forces, which have
created a lousy equilibrium of their own, are defeated, and a
more virtuous economic cycle can begin.
With economic growth at its weakest in a decade, India needs
a reset as badly as Japan did when it elected Abe in December
last year. Finance Minister Palaniappan Chidambaram has so far
focussed on structural reforms. But pruning government
expenditure and allowing greater foreign participation in
aviation, insurance and retail does not produce results
overnight. A bold reset - such as devaluing the rupee 16 percent
against the US dollar - will have an immediate impact.
The Japanese yen has witnessed a 16 percent decline since
Abe's election victory in December. The effect on Japanese
companies is palpable. "Everything has suddenly changed,"
Hiroyuki Bessho, founder of Redfox, a 25-year-old enterprise
software solutions company, told me in Tokyo recently. "Our
customers are now more optimistic, and so are we."
Policy makers in India may dismiss the idea of devaluation
on the grounds that the bug that has kept the Japanese economy
from performing to its potential is entrenched deflation, while
India's growth is stifled by double-digit inflation. But in both
countries the opposite problems have had the same effect of
choking off private enterprise.
There are other differences. Japan's deflation was the
result of the bursting of a gigantic asset bubble in the early
1990s, and was compounded by a hollowing out of wages following
an exodus from the workforce of the post-World War II baby boom
generation. India's inflation has been a result of ultra-loose
fiscal policies that, via generous state-set crop prices and a
rural job guarantee, encouraged outsized wage growth in
Those policies - combined with graft scandals that
distracted the government from its task of creating capacity,
especially in power and other infrastructure - have hobbled the
economy. Not only are investments sputtering, urban consumption,
too, is waning. Car sales fell for the first time in 12 years in
the year ended March 31.
If this were a typical business-cycle downturn, a recovery
would be around the corner. But India is in the throes of a
multiyear credit-cycle downturn, which is being reinforced by
structural rigidities in the economy. It is possible that India
will exit the low-growth trap by attacking shortcomings like an
inflexible labour market and a nonexistent bankruptcy regime.
That, after all, is what Abe's detractors also recommend: "Don't
play around with money, fix the supply side." But doing so takes
Devaluing the rupee would pose considerable risks. For a
start, inflation will become worse than it already is. But by
simultaneously tightening fiscal policy, the government could
offset some of the inflationary effect of devaluation.
Implementing a long-delayed goods and services tax, which will
subsume many of the existing indirect taxes, would also help
bring inflation under control.
A prolonged period of rupee undervaluation will create its
own problems. More speculative capital will enter the economy
looking to profit from an eventual revaluation. New Delhi may
face international censure for manipulating its currency. But
since India is by no means a dominant exporter, the criticism
will be less harsh than China faced before it revalued the yuan
The long-term gains from a cheaper currency will outweigh
the short-term pain. Once it becomes clear that the central bank
won't let the rupee rise from its post-devaluation level of
about 65 to the dollar for a few years, a new economy centred on
export-led manufacturing will have a chance to supplement
software exports. The record high current-account deficit of 6.7
percent of GDP will quickly turn into a small surplus.
Besides bringing its spending under control, such a strategy
would require the government to do two more things: Give
abundant coal to power producers so that manufacturing has a
real chance, and slowly free the banking system from its current
mandate of channelling 23 percent of deposits to the financing
of public debt.
The availability of cheaper electricity and credit will
stimulate manufacturing and export of widgets that China can no
longer make at competitive prices. India's young will get the
job opportunities that an unnaturally strong currency is denying
them. Besides, it's best to whack the wealthy with a tax they
can't escape. The currency reset is effectively a tax on
consumption and a subsidy to producers and workers.
Even if the government resists, it might face devaluation
anyway. More than any other economy in Asia, India is addicted
to the cheap money being printed by central banks in advanced
nations. As this monetary stimulus recedes, India will find it
hard to finance its ballooning trade deficit. With
foreign-exchange reserves barely enough to pay for six months of
goods imports, resisting the pressure for currency depreciation
will be futile. Rather than accept a weak rupee via a currency
crisis, India should consider embracing such an outcome as a
It's futile to expect such a bold step from the Manmohan
Singh government, which has already entered the lame-duck phase.
But serious contenders for the prime minister's job in 2014 -
Rahul Gandhi of the ruling Congress Party, Narendra Modi of the
opposition Bharatiya Janata Party and possible "third front"
candidate Mulayam Singh Yadav - should start exploring the
devaluation idea. Communicating the plan as a campaign pledge,
which is how Abe marketed his anti-deflation programme, will
give it legitimacy. The great reset will not obviate the need
for fixing the Indian economy's many weaknesses; but it will
make that task a lot easier.
- For previous columns by the author, Reuters customers can
(Editing by Peter Thal Larsen and Katrina Hamlin)