How do Indians and the rest of the world deal with the rejuvenated Narendra Modi? To answer that, we must first consider what we learned about the prime minister in the past five years:
• He is a man of action.
• He is highly sensitive to criticism.
• He is highly organized and focused.
Primarily, Modi is an interventionist, as against a laissez-faire politician. He appears to have a compelling need to act on every matter and for people to see that he is the one acting on a particular matter. This has led to an unwieldy centralization of policy decisions, in what is essentially a federally structured government. On the positive side, though, his actions have helped him politically. Ranging from direct cash transfers to cooking gas subsidies (reallocated from the middle class to poorer Indians), various reform measures championed by Modi have directly touched the lives of many Indians, many of whom turned up to vote for the Bhartiya Janata Party.
Secondly, he is highly sensitive to criticism, to the point of being paranoid. An acquaintance, whom I shall describe as one of the best-connected people in India, described Modi as someone who could never take a bribe – not so much because of his honesty or integrity, but because his ego would never forgive him for any criticism he received because of it. This fear of criticism also feeds his impulse to centralize decisions, per this acquaintance, as Modi worries about underlings making decisions based on bribes. Even so, there is an obvious weakness that emanates from his hypersensitivity to criticism: Time and again, Modi’s critics have managed to rile him. In some cases, they have forced him to act in situations that he sought to avoid.
Thirdly, Modi comes across as a tremendously well-organized politician, if not a terribly effective manager. He is the archetypal political leader, not a careful custodian of the economy. A number of plans and initiatives championed by him have proved tremendously popular even if their efficacy is somewhat in doubt. As an example, many poorer Indians talked about the “Clean India” (Swachh Bharat) campaign that possibly helped to reduce the grime but certainly has elevated the social status of cleaners, whose manual work had hitherto been looked down upon.
What does this mean for the economy and markets?
Looking at the next five years of this parliament, one would tend to start from the base of how the economy performed in the past five years under Modi. His three signature policy actions were:
2) Introduction of the Goods and Services Tax (GST) and
3) Promulgating the Insolvency and Bankruptcy Code (IBC).
It is clear that demonetization failed in its larger economic objectives. The other two have been partially successful even if they have been severely challenged by cumbersome processes, lazy bureaucrats and an interventionist judiciary. Even with the challenges, both the GST and the IBC offer a strong foundation for the economy to reassert itself in the next five years.
As in much of the rest of Asia, businesspersons in India are notoriously given to rent-seeking behavior. In part, this is understandable due to the relatively high cost of capital in the country, which elevates attendant risks to productive capital creation in terms of capital structure (debt vs equity) and timing (short-term vs longer-term cash flows). Over the past 50 years, this impetus led to a cozy relationship building between top businesspersons and the ruling dispensation (usually, the corruption-prone Congress party). Thus, while project internal rates of return were elevated in many sectors of the economy, failures could easily be washed through banking system losses with ownership of the resulting businesses retained by the same business houses. In other words, there was very little cost of failure. However, that “insurance” was purchased by corruption and by remaining close to controlled sectors of the economy as against more competitive sectors (leave alone globally competitive sectors).
When we think of the Indian economy, it’s fairly easy to quantify the potential growth rate:
1) Population growth rate -2%
2) Earnings from savings pool -2.5%
3) Impetus from other factors such as urbanization -2%
Without much intervention, this is an economy that can coast along at a 6-7% growth rate for the foreseeable future; no mean feat for a $2.5-trillion economy. In that context, the lack of domestic capital formation in the past three years has been driven entirely by businesspeople flummoxed by the BJP top leadership’s lack of corruption. Unable to drive desirable outcomes in advance, many top business houses put their capital investments on hold, awaiting a more “friendly” government. My sources tell me that a number of opposition candidates considered more pliable saw their campaigns funded quite generously by such business houses.
With both the IBC and GST tightening the screws on the business sector, the only way out for these business houses would be to invest heavily in the economy. I therefore expect private-sector capital formation to grow by over 25% per annum over the 2019-2022 periods, essentially adding about 2-2.5% each year to India’s economic growth.
Additionally, I expect Modi to strengthen and broaden infrastructure spending, which will add a further 1% to GDP growth in the next three years.
All of these positive vectors would be needed to overcome the heavy challenges and tailwinds facing the Indian economy at this juncture:
– Near-term rising oil prices that will pressure the currency, inflation and the country’s current account deficit
– Lethargic performance of the country’s state-owned enterprises
– Drag from companies currently in the midst of debt restructuring – at last count more than 2,000 companies faced liquidation or debt restructuring
– Potential slowing of demand among major export destinations.
On balance, I believe that the Indian economy could continue to grow by 6-7% in the near term, with a likely shift to the 8% territory from 2021.
Positive trends on India’s economy must, however, be balanced by a more sober assessment of externalities. Specifically, a few key themes are likely to be pronounced in the next few years:
A) Slowing China: The incipient economic slowdown of China, potentially decelerating further with US trade conflicts, presents an important interregnum to China-India relations. On the one hand, a number of Chinese companies, including top handset manufacturers, have expanded rapidly in India at the expense of global majors; on the other hand, though, a number of US businesses are looking to relocate their Chinese factories to India as they prepare for the longer term against US and EU tariffs. While a cooperative, win-win game is in in the interests of both China and India, the mercurial personalities of President Xi Jinping and Prime Minister Modi need to coalesce around the same strategic notion. Here, there is a distinct risk that the US could spoil the party and push India closer to a competitive game against China.
B) Cornered Pakistan: Integral to the economic risks of China would be the future of its close ally and Belt and Road Initiative partner, Pakistan. With an economic meltdown of its own, compounded by tightening global sanctions and exacerbated by the harsh terms of an International Monetary Fund bailout, Pakistan has its back to the wall. Past governments of Pakistan, when cornered by weak economics, have sought to lash out at India in an attempt to distract their own population and unify the country around its all-powerful armed forces establishment. This scenario is a baseline concern for India for the next 18 months at least.
C) Jihadi risks increasing: The Easter attacks in Sri Lanka showed the increasingly militant ambitions of various jihadist organizations based in India, particularly in the southern Indian states of Kerala and Tamil Nadu. A BJP victory intensifies these risks because the jihadis would feel existential threats from an imminent crackdown. I would expect the new government to move quickly to quash these organizations before they spread their vile tentacles of terror any further than they already have. The recent discovery of ISIS cells in Kashmir as well as Kerala portend significant expansion of terrorism risk should the Indian state not act decisively after these elections.
D) Return of the Maoists: Less commented on in recent weeks has been the resurgence of Maoist attacks – the Naxalite movement, which is based in resource-rich regions of central India. The Maoists have attacked Indian security forces and the local police, and have assassinated some low-level politicians. As a long-term threat to India, the Maoists simply refuse to die even as their mother organizations – the two communist parties – have lost all relevance in the elections.
Bottom line: Strong mandate, positive demographics and potential economic growth upside come with a muddled geo-strategic outlook. As long as institutional checks and balances hold Modi back from his more reckless impulses, India should emerge at the end of the next five years as a stable, relatively peaceful economy with a further 20 years of strong economic growth to look forward to.
Chan Akya is a veteran analyst for Asia Times. To read part 1 of this article, click here