At first glance India’s economy, after a series of lean years, would appear to be roaring along. Gross domestic product expanded by 7.3% in the Indian financial year to end-March 2015, up from 6.9% the previous year.
Growth dipped in the three months to end-June but only slightly, with economic output expanding at an annualised rate of 7%. Barclays predicts the world’s ninth largest economy will expand by 7.8% in the current financial year.
The rest of the world has taken notice: at the Group of 20 finance ministers and central bank governors meeting held in Turkey in the first week of September, International Monetary Fund managing director Christine Lagarde said India was among the world’s “few bright spots”. If there is any growth to be found in the emerging world, she added pointedly, it was to be found in the heart of South Asia.
These are heady days for a country that barely 18 months ago was struggling, presided over by a lame duck premier, Manmohan Singh, and a weary, directionless Congress party. Despite its manifold potential, from a vast and vibrant services sector to an almost perfect set of demographics — the country will soon have 20% of the world’s working-age population — there was a pervasive sense that India was failing.
Growth had slipped from double digits to the mid-single digits; desperately needed infrastructure projects were stymied by restrictive land and labour laws; corruption in the halls of power had seemingly become endemic, besmirching the reputation of many politicians in New Delhi.
BETTING ON MODI
So when India’s voters turned to Narendra Modi during the general elections of May 2014, handing his right-wing Bharatiya Janata Party (BJP) the biggest domestic landslide victory in 30 years, it seemed like a last, loaded throw of the dice.
Modi was the epitome of the modern technocrat, favouring growth and jobs over ideology and politics. During 13 sometimes controversial years as the chief minister of Gujarat, he transformed his home state from a largely agrarian backwater into an industrial and technological powerhouse, loaded with special economic zones based on the successful Chinese model.
When 814.5 million eligible voters cast their ballots last year, the vast majority were betting on Modi’s ability to transform India into an enlarged version of Gujarat, replete with world-class IT parks and industrial facilities.
So far that bet looks, if not misplaced, then certainly a lot shakier than it was a year and a half ago. Modi is clearly still highly popular at home and retains the support of a large slice of the domestic investor and business community.
However, a sense of frustration is also creeping in. India’s premier campaigned on an agenda of bold reform, promising to slash red tape and push ahead with major new infrastructure projects. Yet rule changes have so far been quiet and unobtrusive rather than big and bold, frustrating those who crave real change.
Take one of the premier’s stated ambitions: to reduce the state’s stranglehold over the economy and free up the private sector. Nowhere was this ambition more visible than in a plan to narrow the fiscal deficit by embarking on an aggressive divestment programme, selling stakes in solid-but-stodgy state enterprises.
Modi’s goal of raising $10.6bn in the 12 months to end-March 2016 through a series of state divestments was always going to be a stretch but recently it has begun to look outlandishly ambitious. In the first five months of that period, the government raised just $2.4bn via three government-mandated sales.
Two took place in late July and early August when the state sold a 5% stake in a pair of specialist financial institutions, the Rural Electrification Corporation and the Power Finance Corporation, generating a total of $1bn. A much larger divestment in the final week of August saw the government raise $1.4bn by divesting a 10% stake in India Oil Corporation (IOC). It succeeded, but only after another state-run firm, Life Insurance Corporation of India (LIC), the nation’s biggest investor, bought 86% of the 242 million shares on offer.
That deal left many investors and bankers scratching their heads: why push ahead with such a key divestment on a day when onshore equities endured their biggest one-day fall in six years? Was it ineptitude, a poor sense of timing or both? After all, the Sensex, a measure of the 30 largest and most liquid stocks listed on the Bombay Stock Exchange, had been trading in a narrow range for two months before tumbling 8% the week of the share sale. Why not delay the sale for a few days to allow the Sensex to recover (which it did, almost immediately)?
“They should have waited a week, two weeks,” says a Mumbai-based investment banker who has advised on more than one of the recent divestments. “There was no need to rush into it.”
Yet Modi clearly felt the need for speed. By any measure, his divestment programme has proven to be unsuccessful and unimpressive, despite mostly robust market conditions. In the current year to September 3, a total of $16.4bn has been raised through onshore equity capital market issuance, according to data from Dealogic, against just $7.47bn a year ago. Over the same period, the amount of capital raised through domestic initial public offerings jumped to $773m, from $90m.
RAISING MONEY
Even bigger tests now lie ahead — notably the planned sale of a 10% stake in Coal India, the world’s largest coal miner. India’s premier desperately needs that deal, from which he hopes to raise upward of $3.6bn, to be a hit and for two reasons: first, the government needs the cash in order to cut the fiscal deficit to 3% of gross GDP by 2018-19; and second, Modi needs to show the nation — and the world — that his programme is not already running out of steam and supporters.
In truth, that battle may already be lost. Aneesh Srivastava, chief investment officer at Mumbai-based IDBI Federal Life Insurance, says it will not be easy for the government to hit this year’s divestment target. Shilan Shah, India economist at London-based Capital Economics, believes the programme has been undermined by the government’s timidity. “Investors just aren’t that interested in buying tiny stakes in very large state firms,” he says. “Each divestment has been very small in scale, and each sale has been bailed out by another state firm. We need to see bigger divestments and better timing.”
Then there is the enduring puzzle of the true state of India’s economy. Modi promised better growth numbers — and so far, at least according to topline data, he has delivered. But no one can quite work out how. When India rejigged its GDP reporting mechanism at the start of this fiscal year, the aim was to give investors a more precise picture of the scale and size of the economy. A new measurement, gross value added (GVA), was integrated into overall data in a well-meaning attempt to strip out the distorting effects of taxes and subsidies.
MUDDLED DATA
However, the new data has merely muddied the waters. Given that indirect taxes had risen sharply in recent quarters, GVA was expected to rise at a slower pace than overall GDP growth in the quarter to end-June 2015. In the event, it actually grew faster, expanding by 7.1% year-on-year over the three-month period. Manufacturing output climbed 7.2% year-on-year over the same period according to the new system, even while raw industrial data pointed to a more supine growth rate of 3.6%. Growth in the construction sector was tagged at 6.9%, even though cement output expanded by just 0.9%, and major real estate projects were delayed by unseasonably wet weather.
Fund managers and economists described the data as “perplexing”. Even Reserve Bank of India governor Raghuram Rajan publicly expressed his scepticism about the new growth numbers. Modi cannot be blamed for the new measuring system: it was the brainchild of the Congress party. But it has left many wondering whether India’s latent growth spurt is real or an illusion.
DEFLATION AHEAD?
Last but not least, there is the state of the premier’s overarching economic reform agenda. Again here the picture is mixed. Inflation, a constant thorn in the side of policymakers, finally looks to be under control. Consumer prices grew by just 3.78% year-on-year in July, a record low, leaving some wondering whether the country was heading toward deflation. “Modi’s role in tackling food inflation is underappreciated,” notes Siddhartha Sanyal, chief India economist at Barclays. “He has managed to cut prices by managing food stocks more proactively, and by reining in guaranteed crop prices, a process that is helping to transfer wealth to the rural economy.”
Yet the premier has also missed a series of opportunities to push through genuine and much needed structural reform. There has been no breakthrough on a long-planned Goods and Services Tax, a uniform sales levy designed to boost domestic trade and raise government tax revenues. Foreign institutional investors were left reeling after being courted heavily by Modi and his finance minister, Arun Jaitley, only to be hit by a new retroactive tax that specifically targeted overseas portfolio investors. Modi scrapped that arbitrary tax this August but only after unnecessarily alienating a key investment constituency.
Most worryingly, the BJP in August made a hash of pushing a bill through parliament designed to accelerate major infrastructure projects by streamlining the process of procuring land from landowners. The failure of that bill dented the aura surrounding India’s premier as well as his chances of creating a strong, diversified and job-heavy industrial and manufacturing powerhouse.
“The importance of this reform cannot be understated,” says Capital Economics’ Shah. “It will ultimately prevent [him] from realising his ambition to turn India into a manufacturing powerhouse. The bigger picture is that Modi has missed another major opportunity to push ahead with contentious reforms.”