India’s new normal growth rate is 6-7%.

What is India’s long-term growth rate, or the rate at which it will grow without straining resources and stoking inflation?

In his budget presentation, finance minister P. Chidambaram said getting back to the potential growth rate of 8% is the challenge that the country faces. Last year, the Reserve Bank of India (RBI) said India’s potential growth rate may have fallen to around 7% after the global financial crisis.

The finance ministry now seems to have revised that even lower.

The Economic Survey says that, in a business-as-usual environment, where there is some improvement in infrastructure, but only slow improvement in areas such as education and no change in institutional structures such as business regulation and labour laws, then the economy is likely to grow at “a comfortable 6-7%, the new normal”.


In this scenario, there is some movement of people from agriculture to low-skill services such as construction and household work, as well as to informal manufacturing, but too few quality jobs, which could lead to rising labour unrest. That is unlikely to be comfortable.

More importantly, the lower end of the long-term growth range here is 6% and the upper end 7%. Vijay Kelkar had pointed out that the economy needs to grow by at least 7% if it were to absorb new additions to the labour force. A 6% normal growth rate, therefore, won’t generate enough jobs and is likely to lead to social conflict.

Note also that the business-as-usual outcome is the middle scenario envisaged by the survey. It says that growth will be faster given so-called vast improvements in infrastructure, education, business regulations, labour laws, more investment etc.

But there’s also a pessimistic scenario of no improvement in infrastructure, education and institutions, which will lead to much greater social strain. Even the 6% growth scenario, therefore, is not a given.

The question is: is the gloss on the long-term India story wearing off?
The implication of the Economic Survey’s study is that even after a cyclical rebound, the economy will find it difficult to breach 7% growth without a strong dose of structural reform. That is, of course, what many of us have been saying for a long time. In short, the time for business as usual is long past, which is why the recent budget was disappointing.

A chapter in the survey on Seizing the Demographic Dividend makes the point that the demographic dividend will be a reality for India only if there are enough productive jobs to go around.

It pictures three different job scenarios. In the baseline scenario, assuming that employment in industry and services will grow at the same rate as in the previous decade and with current labour force participation rates and taking the current employment rate, there will be 2.8 million lost jobs by 2020. If the labour participation rate rises, perhaps because more women start looking for work, then the number of jobs falling short could be as high as 16.7 million.

Note also that the average GDP growth rate during 2000-10 was 7.2%, higher than the new normal rate of growth, so the assumption of employment growing at the same rate as in the previous decade may not hold good.

The study finds that India’s performance after its economy took off in 1991 has been similar to the trajectory that both Indonesia and South Korea travelled after their take-off dates, although China’s record has been better. The share of workers in agriculture has been shrinking at a similar pace to that of other countries at a similar stage of development.

For example, the share of workers in agriculture is expected to fall to 40% by 2020, the same level as that of China in 2010.
But, can we absorb all these workers in non-farm employment? India’s problem is that while manufacturing jobs are being created, these suffer from low productivity because they are mostly in the informal sector or in small firms that don’t have economies of scale and are much less efficient than larger ones.

Also, many of the jobs are in the low-skill construction sector.

On the other hand, while India’s services sector is much more productive than those in other Asian emerging countries, it doesn’t absorb too many people. The result is that migration from agriculture hasn’t led to a big rise in per capita income. Improving infrastructure, easing business regulations, training personnel in the required skills and scrapping restrictive laws are the prescriptions put forward to increase productivity.


But none of this is likely to happen soon. The present government’s strategy, if one can call it that, is to divert resources to social programmes in the rural sector. The economic survey maps out the consequence of this kind of policy: “There is large-scale migration to overburdened cities. More support is given to agriculture and transfers are made to rural areas so as to prevent further migration. The strain on government finances increases.

Income inequality between good service jobs in cities and marginal agricultural jobs in rural areas increases tremendously. Social strains grow.”

The current policies have led to severe supply constraints, rampant inflation, a falling savings ratio and a huge current account deficit. Foreigners have so far continued to pump in money to cover that deficit because they believe in the long-term potential of the Indian economy. The Economic Survey points out that, in the absence of structural change, that faith is misplaced.


Source : livemint.com