Thursday, June 26, 2008

Media hype is a threat to growth outlook

Seeing the coverage of the rise in inflation and the reactions to it, you might think the Indian economy is in the midst of a crisis or headed towards one. Relax. Take a few deep breaths, pinch yourself nicely and chant thrice: this economy is growing at 8%. Done? Now, read my latest ET column, Inflation threat is exaggerated. Let me elaborate on why I am fairly optimistic.

A top CEO told me a couple of days ago that most firms are "investing like there is no tomorrow". Existing projects will be not be delayed or cancelled. Any hesitation will relate to future projects and fresh fund raising. This means investment will continue to drive growth this year. That is one reason for optimism.

Another is corporate profitability- PAT growth of 40-50%! In most economies, this would be regarded as a fantasy. That gives enough scope for absorption of price increases. The consumer will not face much higher prices, so consumer demand, while being moderated, will not be undermined.

Thirdly, extremely low leverage, thanks to strong profit growth in the recent past. With such low leverage, interest rate increases can be shrugged off by corporates.

Fourthly, the runaway increases in salaries- these make it possible for the real spenders to keep spending. The distributive implications of inflation are another matter. Inflation will not affect growth but will demolish the UPA's chances especially if it relates to food inflation.

Most analysts take the view that cost-push inflation is a threat and the RBI needs to clamp down even if it means putting the brakes on growth. I disagree. The impact of supply shocks on the price level is not clear enough, although we can say with some assurance that large supply shocks tend to raise the inflation rate.

I go with the view that inflation is primarily a demand-side problem. This is true of our present situation as well. Aggregate demand is much too strong for comfort. If the Indian economy accelerates in the second half of the year as global problems recede, we may find growth in the region of 9% plus, which I would regard as the 'overheating zone'. So, in my view, it is the prospect of too rapid a growth rate for the sixth year running that provides the rationale for a rise in interest rates, not cost-push factors.

It is not interest rate increases that pose a threat to growth. The biggest threat to growth is posed by media hype on inflation, the global outlook, etc- the continuous blast from news channels may come to be taken seriously at some point by investors and consumers, which is when the problems will begin.

1 comment:

Kiran said...

Wow!! That's the most opmistic reading of the economy that I am seeing.

But I dont agree with you.

I am losing money that I have invested in the stock market due to the freefall.

With the inflation at 11.5%, the money that I have in my savings account has a real rate of -7%. My money is worth less and less.

The money in my fixed deposit is getting a real rate of -2%.

I have had a huge increase in my EMI for the house because of the interest rate hikes. I am not sure if I can afford these EMIs any longer.

Commodity prices have increased which means my money's worth is getting lesser and the prices of the commodities are increasing.

And all this affects me as a consumer. So my consumption is definitely going to decrease which then goes on to affect a lot of things.

And this is for me, who is probably among the top 10% income in the country (which is not all that much considering that of the 500 million workforce, 10% is 50 million). Think of everyone below that.

Things are scary and no amount of positive spin is going to delude anyone into thinking everything is alright.