China’s economic troubles and lessons for India

By: Amir Ullah Khan,

Board Member and Advisor

As the Chinese economy fumbles, the stock market across the world has crashed. Oil prices have gone down to 32 dollars a barrel.  Brazil in the west and Indonesia in the far east have seen exports drop sharply. The world economy surely looks vulnerable. Firstly, it is the size of the Chinese economy that causes concern. It is the second largest economy now and is also the second largest importer of goods and services. All countries that sell to China therefore get worried when the economy starts slowing down.

Secondly, domestic demand in China is possibly not increasing as fast as expected. China has been working on its export led model ever since it began its reforms in 1978. However, after generating steep growth over the last three decades riding on strong export growth, the economy must now transform. Exports cannot continue to grow for ever as world prices fall and as the European and Japanese economies slow down. Therefore, the Chinese have been tryng to move from exports to domestic demand catalysing growth.

What does all this mean for India? Some people, including Finance minister Arun Jaitley have indicated that the Indian economy will benefit by this Chinese slump. The Indian economy will certainly be the fastest growing economy in the world. But this is only because  the Chinese economy will grow slower. India has already shown that it could not even match its estimated growth of 7.4%. The economy is now expected to grow by 7.8% next year, but we certainly haven’t started well. The Finance minister is already a worried man as he gets ready to present his budget next month.

While it is true that India will indeed be the fastest growing economy, we should not take it to mean that India’s clout also will go up similarly. We are still a struggling nation and our indicators are anything but comfortable. The serious concern that the FM has is that with growth expectations coming down, revenue shortfalls loom large Which means that the targeted deficit will be missed and that will diminish investor confidence.  Businesses have already stopped investing as corporate profitability has nosedived.

Nominal growth has crashed to 6 per cent from 13.6 per cent. Nominal growth is used to set fiscal deficit targets. Such a huge fall in growth will postpone fiscal consolidation for a long time. It will also keep our interest rates high. And with such high interest rates, the cost of capital will remain high and further dampen investment. The finance minister will be under tremendous pressure to relax his fiscal deficit target and allow greater public expenditure. If he succumbs to this, the economy is surely going to get seriously hurt next year.

The problems that China faces could certainly have provided opportunities to India if we were better prepared. However, India is ridden by supply constraints. The infrastructure is weak and creaking. Our products are not cost competitive. The rupee is at its weakest ever but not helping our exports at all. Public investment is high but private investment is refusing to collaborate. Private demand however keeps rising exposing the supply problems even more. It is time the government takes a leaf out of the problems the Chinese are facing and quickly moves decisively towards fundamental and difficult reforms.

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