Thursday, March 27, 2008

Savings and investment in Indian economy

Shankar Acharya is bearish about the savings and investment prospects for the Indian economy:

The big question today is will this massive surge in savings and investment ratios continue into 2008/9 and beyond? The chances are that it won’t and here’s why. The household savings ratio will probably continue to increase gradually for much the same reasons that have prevailed over the last two decades, except that in 2008/9 we might see some moderation due to negative wealth effects stemming from lower asset prices (equity and real estate).

The corporate savings boom is more likely to peter out as the industrial economy continues to slow in the face of global headwinds from the international credit crunch, domestic business cycles and high interest rates. Depending, obviously, on earnings performance, the ratio of corporate savings to GDP could easily drop below 8 percent. Central government savings will be impacted by the Sixth Pay Commission, the budget’s income tax bonanza, slower growth in company taxes, farm loan waiver costs and rising major subsidies. Public enterprise savings will bear the brunt of growing oil sector “under-recoveries”. On balance, public savings is likely to dip below 3 percent of GDP. Taken together, aggregate savings in 2008/9 may be in the range of 34-35 percent of GDP, compared to the 36-37 percent peak probably achieved in 2007/8. So aggregate investment could also drop one or two percentage points from the 2007/8 advance estimate of 38.4 percent of GDP.

Well, Acharya was bearish about Indian growth prospect as recently as two or three years ago. I do not share his pessimism. I think the upswing in investment will continue and growth momentum will be maintained:
  • Even if the rise in domestic savings rate slows down, it will be offset by savings inflows from abroad
  • With the continuing shift towards the services sector, the ICOR will decline, so we will get a better growth bang for a given investment buck
  • True, government savings may be hit temporarily the Sixth Pay Commission effect but there is attrition happening in government, so this will compensate for the higher wages
  • The rise in corporate savings may be slower but rise it will. Industrial growth will decelerate only slightly this year and not much in the years ahead.
I do not know whether there are instances of the savings rate declining in an economy that has moved to a high growth trajectory.

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