Is this a result of a cyclical phenomenon or has it been driven by a structural malaise arising from deficiencies in the economic framework?

The story so far: On November 30 this year, India’s statistical machinery revealed that growth in the quarter from July to September had slipped to 4.5%. This was the lowest level recorded in six-and-a-half years, with the 6.1% nominal GDP growth (real growth plus inflation) coming in as the slowest in a decade. Compared to the previous quarter when growth clocked 5%, the 4.5% print was not a dramatic downswing, but capped off a slow and steady dip in growth over six quarters in a row — following a robust 8.1% growth recorded between January and March of 2018. Growth in the first half of this financial year has been just 4.8%, compared to 7.5% in the same period of 2018-19. Fixed investment slumped to 1%, private consumption growth halved year on year, and manufacturing activity contracted by 1%.

What do the numbers mean?

The omens from high frequency economic indicators for the first two months of the third quarter do not augur well for the third quarter’s performance to improve much, if at all. Industrial output shrank 3.8% in October, the second straight month of contraction following a 4.3% dip recorded in September and belying expectations that festive demand may revitalise production activity. Manufacturing activity dipped for the third month in a row in October.

But most telling was the 12.2% decline in electricity generation (the second month it had dipped) as it is a good barometer of demand generated by all economic activity, not just industrial production. Imports, merchandise exports, automobile sales, bank credit… metrics one would usually look at to assess economic activity and consumption, are glowing red in official statistics. For November, Goods and Services Tax (GST) collections crossed ₹1,03,000 crore, registering a 6% growth after two straight months of negative growth. It remains to be seen if this can be sustained, even as bank credit growth is expected to hit a 58-year low in 2019-2020.

Amidst this gradual slowdown over the past year-and-a-half, the saving grace for the economy and consumers was that inflation had been friendly and benign. That is no longer the case with retail inflation hitting a 40-month high of 5.54% in November, more than double the 2.3% recorded a year ago. Food inflation hit 10%, led by vegetables (think of onions) and pulses. This has led to worries about India entering a phase of stagflation, where growth and employment are low but inflation is high — a difficult morass for policy makers to swim out of. Any further spike in inflation, that takes it closer to or over the Reserve Bank of India’s (RBI’s) tolerance limit of 6%, will take the option of cutting interest rates for spurring growth out of the equation, for instance. The official third quarter growth numbers will be out on February 28, weeks after Finance Minister Nirmala Sitharaman presents the second Union Budget. But an advance GDP estimate for the full year is expected early next month.

Why is former Chief Economic Adviser (CEA) Arvind Subramanian calling it India’s great slowdown?

The economy’s “seemingly sudden” illness is unusually severe, Mr. Subramanian has noted in a new working paper co-authored with Josh Felman for the Harvard University’s Center for International Development. “This is not an ordinary slowdown. It is India’s Great Slowdown, where the economy seems headed for the intensive care unit,” the paper stresses. Comparing indicators for the first seven months of this financial year with the past, the two have made the case that the current slowdown is closer in nature to what was faced as far back as 1991 — the year India liberalised.

While dissecting the slowdown, many have argued on whether this has been driven by a structural malaise caused by significant deficiencies in the economy’s framework, such as archaic rules governing factor markets. Several others, including some in the government, suggest that this is a cyclical phenomenon and will pass like the circle of life… what goes up, must come down, et al. The World Bank has said this cyclical slowdown is severe. This camp’s rationale for the slowdown focuses on demand collapsing due to reasons ranging from poor rural income growth, the ghosts of demonetisation and a hastily implemented Goods and Services Tax (GST).

Mr. Subramanian’s paper with Mr. Felman reckons that India’s current crisis is driven by both cyclical and structural factors — but problems in finance have exacerbated the slowdown.

Demonetisation and GST may have hurt growth, but cannot be the reason for the precipitous fall in recent quarters. The preface to this crisis began in the aftermath of the 2008 global financial crisis, when slower growth threw out of whack bullish assumptions driving large infrastructure investments. That was the first stress point for banks, and investment and exports that had driven growth through the early 2000s stumbled. That India’s growth recovered without fixing these problems adequately, the paper ascribes to a series of fortuitous developments such as lower oil prices and a boom in credit from non-banking financial companies (NBFCs) which may be partly driven by demonetisation sending more cash into the formal financial system.

With the collapse of IL&FS in late 2018, that party has ended too. And now the twin balance sheet crisis (of stressed banks and corporates with infrastructure bets) that Mr. Subramanian flagged as a CEA, has become a Four Balance Sheet challenge (adding stressed NBFCs and real estate firms).

The paper, titled “India’s Great Slowdown: What Happened? What’s the Way Out?” (https://bit.ly/2Ql2E3q), underlines: “All major engines of growth, this time also including consumption, have sputtered, causing growth to collapse… Something must be done to get India out of its current vicious cycle, in which low growth is further damaging balance sheets, and deteriorating balance sheets are bringing down growth.”

What are rating agencies and multilateral institutions saying?

The International Monetary Fund (IMF) had already pared India’s growth estimate for this year to 6.1% in October from its earlier forecast of 7%, but is now expected to slash it further with the country in the “midst of a significant economic slowdown”. The World Bank had said in October that it expects 6% growth but even achieving this range (6% to 6.1%) would require a significant uptick in the second half of this fiscal.

The most glaring downgrade for India came from global rating agency Moody’s Investor Services which switched India’s sovereign rating outlook from “Stable” to “Negative” in early November, citing enhanced growth risks. A week later, it also lowered growth expectations to 5.6% (from an earlier 6.2% hope) for 2019, saying the slowdown is lasting longer than it expected. In October, Fitch Ratings lowered its growth estimate for 2019-20 to 5.5% from 6.6%. Similar revisions have come from almost every other global institution, including the Asian Development Bank, the Organisation for Economic Co-operation and Development (OECD) and rating agency Standard & Poor’s (S&P). These gloomy estimates still appear rosy compared to expectations from those closer to the ground. India-based, S&P-owned rating agency CRISIL has pegged down its growth hopes from 6.3% to just 5.1%, stressing that the slowdown has deepened.

What can the Union Budget do to help?

The government has rolled back several measures perceived to be deterrents for investors in the Budget for 2019-20 presented in July; in September, it even slashed corporate taxes significantly in a bid to attract fresh investments. The Finance Ministry has unveiled some packages for particularly embattled industry sectors such as NBFCs and real estate to salvage the situation even as it has hinted that the slowdown is not structural, but cyclical and driven by global growth pressures. On its part, the central bank has slashed its key interest rates by 1.35% or 135 basis points over the past year, in a bid to spur growth too. In an interview to this paper, the RBI Governor has mooted some “countercyclical steps” (read tax cuts and higher public spending) and continuation of structural reforms to revive the growth project.

But the room for tax cuts — after those announced in September set the exchequer back by ₹1.45 lakh crore — is very limited. GST collections this year have also been tepid and below target, leaving little room for the Centre to spend its way out of trouble. Stoking of inflationary pressures also need to be avoided. Given the constraints, the challenge for the Finance Minister is unenviable, but a focus on fixing the core crisis afflicting India’s financial entities, creating a sense of certainty and predictability about India’s policy direction, be it in taxation matters or reforms of labour, land and other restrictive laws, could provide some salve to the bleeding economy. We will know in 33 days from now.