Even as markets are questioning the Modi premium, a recent Morgan Stanley report has argued that India is likely to be the most reformist country compared to five other countries that have also elected governments with a reform mandate. The reform club countries include Japan, China, Brazil, Russia and Mexico.
MS argues that while Japan delivered on quantitative easing (QE), it hasn’t pushed structural reforms in its overmanned services sector nor increased productivity.
China is boldly going ahead with reforming state-owned enterprises; encouraging savings and consumption by reducing financial repression, but it is still saddled with huge capital misallocation and bad debt.
Brazil and Russia suffer from a Dutch disease of commodity driven prosperity that is in danger as commodity prices tumble. Russia has not been able to reset the dependence on energy nor reform its state-owned enterprises. Brazil is also saddled with high wages, high interest rates and low growth.
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On the other hand, India, says MS is close to its cyclical downturn, it already has market driven interest rates and exchange rates; it has curbed its current account deficit by gold controls and taken politically tough decisions on subsidies to curb fiscal deficit.
MS says as the cycle turns, inflation declines and government starts spending on infrastructure investment rather than consumption, India is likely to easily deliver a 6.5 percent growth.
Chetan Ahya, MD & Chief Economist Asia Pacific at Morgan Stanley, argues the case for India by saying that India does not have a demographics problem, and nor does it have a high debt to Gross domestic product (GDP) problem. India’s growth rates are already much higher than other reform candidates like Mexico and Japan, he adds.
Issues such as land acquisition and labour reforms will not be a deterrent to India’s growth till 6.5 percent level. The country will have to address these issues to grow beyond the 6.5 percent mark and hence it is not an immediate concern, says Ahya.
Below is the verbatim transcript of Chetan Ahya’s interview with CNBC-TV18’s Latha Venkatesh
Q: Your report argues that India is more likely to reform its policies than others in the reform club like China, Mexico, Japan, Russia or Brazil. Why are you so confident?
A: We think India is a better candidate for two reasons. One is that India’s structural starting point is better than other emerging markets, that is India does not have a demographics problem, India does not have a high debt to Gross domestic product (GDP) problem.
Similarly on the cyclical front India’s growth rates are already much higher than other reform candidates like Mexico and Japan. China is higher than India but we know that China has got a problem of a persistent rise in debt to GDP in the background. So India is in that sense much better positioned than other reform candidates in the club.
Q: There are many who argue that the market is way too hopeful on reforms. So many projects are stranded due to tough land acquisition rules. Even while some environment delays have overcome, many projects are stranded because the delay has ruined the financial assumptions. These are structural problems and they are not going away soon.
A: Just to clarify what we refer to this is still as a cyclical problem. Structural problem is something that seems to be not addressable at all which is that you have a reversal of demographics. It is just very hard to reverse that.
On this context of issues like land acquisition and even for that matter labour reforms, we do think that those are the issues that need to be addressed but to get to the first stage of recovery of 6.5 percent GDP growth and 6 percent inflation, those may not be the immediate hurdles to be addressed but they need to be addressed to get the growth rates going higher than 6.5 percent. We do think that the government is working on that front and we will see progress on that over the next two years to ensure that as we are clocking 6.5 percent for the next two years, you are not facing hurdles again and not able to go through the next stage of recovery process.
Q: So your thesis is that 6.5 percent GDP growth will happen even without serious reforms of labour laws or land acquisition rules right?
A: Yes, call it that we were just not taking the right measures, we were actually taking wrong measures which were destroying productivity. For example, the policy on rural wages, for example what happened to fiscal deficit, or real interest rates. If they are negative, people import gold. Gold imports were USD 60 billion at the peak of the cycle and that itself equates to 1 percent of GDP loss if we had put that money into some kind of other investment other than gold. So all these measures which have been reversed itself will support recovery in the first stage. So I think the framework needs to be put in place right as to what went wrong in the first place and then try to identify. I am not saying that some of the issues that you listed are not to be addressed but they are not the immediate problems for going upto 6.5 percent GDP growth.
Q: According to you what should practically be the list of reforms that the government must deliver to take India beyond that 6.5 percent growth?
A: The investor’s bottom line would care for the numbers to pan out and we think all these four factors reversing and going in the right direction will deliver the numbers that they are looking for right now. The key is then to ensure that some of those reforms particularly related to land, labour and tax reforms those are the three things which are in the wings which the government needs to take up. And once those are taken up it ensures that you can deliver some kind of a sustained growth of 6.5-7 percent over the next five years. So they are looking for that but I would say in the near term there is a whole lot of confusion in their mind as to what exactly is needed to get the growth numbers going.
We are debating and arguing here in this report as well is that don’t try to formulate a sort of assumption that you need Foreign Direct Investments (FDI) in insurance and that’s not happening and therefore recovery will not take place. Have the right framework in the first place as to what are the cyclical issues which can be addressed and can deliver you 6.5 percent growth rate and then look for the longer term policy measures which are needed for a sustained delivery of 6.5-7 percent for the next five years. So differentiate between the next two years and five years growth outlook.
Q: Are there any external factors that can jeopardise your 6.5 percent growth estimates say like Fed tapering or extraordinary dollar strength?
A: We would say that there are two key aspects to watch – one is what happens to global capital flows and global capital markets that seem to be in our mind, less of a risk, the bigger concern is what happens to the exports outlook. Now to the extent to which we are getting more and more data points out of Europe and other parts of the region like China where growth is weak that is a concern which will probably weigh on India’s export. Export growth has been held up pretty okay right now, but going forward that could be the risk to watch if global growth weakens and is much lower than what we are building in currently.
Q: Finally a question on the markets. How much of these forecasts are already factored in by India watchers and India investors?
A: The near-term numbers seem to be fairly built in to investors mind. But I think what is probably not completely appreciated is that India can actually deliver a relatively high growth compared to a lot of other emerging markets on a more sustained manner and that is the key to watch. I recall my experience when Indonesia was coming out in 2009, it did have a sustained growth rate of 6 percent and that’s what really eventually surprised the market and delivered better returns than what everybody had initially expected. A higher certainty of compounding factor is what I would say still not completely in the price.