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Straight from the Specialists

Not so easy for India to come out of the dark

By Hartmut Issel
August 2, 2012

(The views expressed in this column are the author’s own and do not represent those of Reuters)

Many words have been used to describe the power outages that put half of India in the dark this week: embarrassing, catastrophic, the worst the world has seen. While all of these may be true, the blackout also embodied the dire situation the country could be headed to without the necessary reforms to modernise its economic infrastructure. To be sure, it is not a lack of vision that would lead India to similar potential disasters in the future, but a lack of political will.

The victory of Pranab Mukherjee in the presidential election changes nothing in the reform landscape: the question remains whether the government is willing and able to accomplish reforms to revive growth. Given the politics that lie ahead with 10 state elections in 2013, it is more likely that only the low-hanging fruits will be tackled over the coming months. The big-ticket items will likely have to wait until after the 2014 general elections. The bad news is that these smaller reforms will not be enough to pull the economy from the doldrums. The good news is that from the bottom, there is nowhere to go but up.

LET’S ACKNOWLEDGE THE TRUTH

The fact is that India is not fulfilling its potential due to the absence of reforms. In my view, delays in some of the major items are the reason GDP growth has fallen below the 2008-2009 crisis levels. The lack of progress has also caused drastic mood swings among financial investors.

The pressure on the government to act is increasing, due not only to deteriorating numbers but also to the threat to the government’s credibility and sovereign credit rating. With Standard & Poor’s giving India a negative rating outlook, the country is flirting with junk status. Promisingly, the incumbent Congress party has acknowledged that without reforms, its chances of winning the 2014 elections would dwindle. But while the party’s spirit is willing, its flesh may be too weak to overcome the hurdles — in many cases, the states and the allies they represent — to the kinds of reforms that would attract investment and usher the economy back to the promised land of 7.5 pct to 8 pct growth.

REALITY CHECK: THE TOUGH ONES

I’m talking about measures that need to pass the eye of the legislative needle. Perhaps the Holy Grail is the introduction of a countrywide goods and services tax (GST), which would cut the complex state-determined tax brackets and norms, arguably lowering the cost of doing business in India. The idea is that only the central government would collect the taxes, but, naturally, this leads to drawn-out discussions with state governments on what their share of the taxes should be. It is a luxury to hope that a common denominator could be found before 2014.

The same may be true of the proposed mining law that aims to streamline project approvals into a single step, as opposed to the several time-consuming steps currently in place. But the bone of contention here is that the reform also involves a high 26 pct deduction from profits towards social responsibility and communities.

The land acquisition bill that is supposed to boost infrastructure investments is expected to pass sooner, but it still needs refinement as to when exactly the government is entitled to enforce an acquisition and at what price. Payments for displaced people for up to 25 years are foreseen, and this may be too high even for private companies to afford.

WE’LL SETTLE FOR SCRAPS

Some easy targets, such as faster approvals of mining and power plant projects, as well as diesel-subsidy cuts through price hikes, could see progress in the next six months. So far, the lack of approvals in mining, energy and other industrial sectors has largely been due to fear in the bureaucracy of being accused of graft, and partly to popular protests in the affected areas. But these kinds of approvals are easier to revive, as they are less subject to lobbying. And with the presidential election now out of the way, cutting diesel subsidies is in the cards.

Tackling the debt issues in the power industry, along with further electricity tariffs hikes, also looks promising. What has somewhat been encouraging is that states are waking up to reality regarding tariff hikes, which on this scale was taboo until last year. The vast majority of states have raised power rates, and the largest, Uttar Pradesh, is expected to follow suit in the coming months. Related to this issue is the recent proposal to ease the debt burdens of several State Electricity Boards, which had to absorb the difference between input prices and the sometimes heavily subsidised tariffs for end-users.

There is a precedent of a relatively successful restructuring of the power sector in 2002, and the major hurdle at the moment is that the less profligate states want to make sure their better economic behaviour is acknowledged in the financial mathematics of the restructuring. Any breakthrough in this area would be very much welcomed, not least by investors, as the threat of bankruptcies and the occasional inability to pay bills have served as a deterrent to investment in the industry. Of course, the rest of the country would benefit, too, as more investments should mean power outages the likes of what we have recently seen would be a thing of the past.

All of these would be a good start to putting Indian reforms back in the saddle. Unlike the GST, the mining law and the land-acquisition bill, they may not immediately address the country’s fundamental problem of poor domestic finances. But as they are salves to ongoing pain, we’ll take what we can get.

Comments

Hartmut,

Thanks for an interesting article. As one who visited India many yrs ago I would say that I have been delighted to see the growth of India economically.

Major power outages are disappointing and even dangerous especially for hospitals etc but are inevitable in a Developing country.

I found the Indian people to be a wonderful people and hope they can get back on track to growth and prosperity.

Namaste!

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