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gpnraan 3 years ago.
I briefly referenced the Indian banking crises in a post back in Nov 2016 (/forums/topic/indias-curremcy-ban-destruction-of-an-economy/).
I will attempt to expand on the reasons for this debacle and the possible economic scenarios for India going into FY 2017. This is in two parts – the first part is on some background and the second part deals with the actual banking sector and de-monetisation.
1. Recent political and economic history
The Indian economy is directly managed by the Central Government for the Union of India based in Delhi. India as a political entity is largely a legacy of the British Colonial Era. It can be said that without the British, India as a country would not exist. The different medieval kingdoms since the 1700’s (including the Moghul Empire) were gradually merged into an uneasy and fragile alliance of states – a conflict that continues to this day.
British India consisted of 17 provinces and 562 princely states. The provinces were given to India or Pakistan, in some cases in particular — Punjab and Bengal — after being partitioned.
The economy, political structure, education, law, civil infrastructure and technological base that unites theses states are still in many ways dependent on the framework that was laid down almost a century ago by the British India administration.
The impact of British occupation on India’s economy is a controversial topic. Leaders of the Indian independence movement and economic historians have blamed colonial rule for the dismal state of India’s economy in its aftermath.
At the same time, right-wing Indian historians have countered that India’s economic performance was due to various sectors being in a state of growth and decline due to changes brought in by colonialism and a world that was moving towards industrialisation and economic integration
Since independence in Aug 1947 to the 1980’s when western economies were booming – India was in the grip of a socialist revolution with political parties such as Congress and Janata dominating elections on the strength of socialist policies and support from the lower-economic classes and castes.
Indian economic policy after independence was influenced by the colonial experience, which was seen by Indian leaders as exploitative, and by those leaders’ exposure to British social democracy as well as the planned economy of the Soviet Union.
Domestic policy tended towards protectionism, with a strong emphasis on import substitution industrialisation, economic interventionism, a large government-run public sector, business regulation, and central planning, while trade and foreign investment policies were relatively liberal but did not develop significantly.
Five-Year Plans of India resembled central planning in the Soviet Union. Steel, mining, machine tools, telecommunications, insurance, and power plants, among other industries, were effectively nationalised in the mid-1950s
From the wave of nationalism after gaining independence, under a the belief that everything could be produced locally under a regulated system – left the door wide open to oligarchs who controlled most of the state-run businesses. Corruption was the norm and bona-fide private businesses could not flourish outside this pseudo-economic umbrella.
Most utilitarian items such as food, clothing, transport and medical facilities was heavily subsidised by governments running up deficit spending bills.
A high proportion of the population was uneducated and living below the poverty line. Jobs were scarce. A small number of wealthy and educated individuals ran profitable businesses and formed the elite middle class under the system – in many cases along the divides of caste and religion.
An agrarian economy with limited manufacturing was sustained by the second largest population in the world for the better part of a century. In such cases interest rates were high and inflation low as there was no impetus for growth due to the socialist framework and control of businesses“In the current Indian regulatory system, I cannot decide how much to borrow, what shares to issue, at what price, what wages and bonus to pay, and what dividend to give. I even need the government’s permission for the salary I pay to a senior executive.” was quoted by R J Tata in 1969.
2. Modernisaton of the Economy circa. 1991
Modernisation of India as a commercial entity is relatively recent. India never went through a manufacturing or industrial era beyond essential and secondary goods and services due to the socialist policies adopted and could not be fully self-sustaining nor become a production powerhouse like China – utilising cheap labour to expand the GDP and economic standing of its citizens through private entities.
Industry accounts for 26% of GDP and employs 22% of the total workforce. According to the World Bank, India’s industrial manufacturing GDP output in 2015 was 6th largest in the world on current US dollar basis ($559 billion).
However note that industrial GDP is for the following products: petroleum, chemicals, pharmaceuticals, automobiles, gems and jewellery, textile and mining.These are not hard diversified essentials that make up an industrial nation but rather secondary goods and services. The number of people employed in a sector is more important than the GDP as far as banks are concerned
(This is unfortunately true for most countries that rely on natural resource exports coupled with running socialist political systems, tight business reforms and deficit budget policies in the 20th century).
The collapse of the Soviet Union, which was India’s major trading partner, and the Gulf War, which caused a spike in oil prices, resulted in a major balance-of-payments crisis for India, which found itself facing the prospect of defaulting on its loans. India asked for a $1.8 billion bailout loan from the International Monetary Fund (IMF), which in return demanded de-regulation.
India still had a fixed exchange rate system, where the rupee was pegged to the value of a basket of currencies of major trading partners. The government was close to default, its central bank had refused new credit and foreign exchange reserves had reduced to the point that India could barely finance three weeks’ worth of imports.
It had to pledge 20 tonnes of gold to Union Bank of Switzerland and 47 tonnes to Bank of England as part of a bailout deal with the International Monetary Fund (IMF). Most of the economic reforms were forced upon India as a part of the IMF bailout.
The economic liberalisation in India was initiated in 1991 to the country’s economic policies, with the goal of making the economy more market-oriented and expanding the role of private and foreign investment. Specific changes include a reduction in import tariffs, deregulation of markets, reduction of taxes, and greater foreign investment.
Rather than focus on manufacturing as the basis for growth, the new breed of Indian entrepreneurs preferred to ride the technology wave and produce high end service sector deliverables in e-commerce, mobile phone technology, call centre businesses as the preferred business model. The demand was for young technically savvy school leavers that targeted a small proportion of the population to produce massive economic gains.
This initially allowed for a wider spectrum of people to participate in building the necessary facilities but there was no long term involvement – consequently a building boom as well as a housing bubble was taking place – which has yet to run its course.
This is the breakdown of the country;s population by profession
India’s gross domestic product (GDP) growth rate dropped to 5.1%, in 2012 – 2013 as more criticism on concentrating the growth in already established services with limited growth potential surfaced. A worsening level of living conditions for the masses developed as inflation soared – compared to the reform period.
India started a recovery in 2014-15 when the growth rate accelerated to 7.2% from a startup boom and related cell phone and electornics manufacturing growth and accelerated to 7.6% in 2015, which means for the first time since 1990 India grew faster than China which registered 6.9% growth in 2015.
I would like to draw your attention to the following points in the Indian Economy
a.The main area of support for the masses is the agriculture sector which employs 53% of the population. This is self-sustaining and is usually very dependent on banks as most farmers have large loans. This is the basis for assets to be acquired for lending. The revenue from this sector has reduced 200% since 1990
b.The industrial sector is a secondary export market employing 11% of the population – that can fluctuate with world supply and demand, In times of economic downturns the loans and assets to owners can be diminished but not wiped out. However these contain hard assets so banks can refinance and not default. The revenue from this sector has not changed
c.The services sector is unstable as it depends on international investment beyond India’s control which employs less than 1% of the population. There is an investment component that can be rescinded overnight – with massive losses as loans can be wiped out, The services sector is mainly responsible for the housing and infrastructure sector which employs 11% of the population. The revenue from this sector increased 150% since 1990.
Last two charts are important to understand where the money is coming from and going
End of Part I
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