September 22, 2014

26 August marked the first 100 days since Narendra Modi from the Bharatiya Janata party (BJP) was sworn in as India’s 15th prime minister. Although investors widely welcomed both Modi’s victory and the overwhelming majority that the BJP obtained in the Lok Sabha (the lower house of parliament), the new administration’s performance has fallen short of the business community’s high expectations. Market analysts and investors recognize that unless the new government delivers on the much-needed and far-reaching economic reforms, the recovery of the Indian economy is likely to be lackluster.



Economic data had improved after Modi came to power in May, but more recent indicators point to a moderation in economic activity. GDP growth picked up momentum in the first quarter of FY 2014/2015, supported by an improvement in the manufacturing sector. However, recent data related to industrial production suggested a moderation in growth in July, while the manufacturing and services PMIs—considered timelier gauges for economic activity—were less encouraging in August, which suggests that it is too soon to affirm that the new government has begun to drive the economy in the right direction. For example, the measures that the government has taken to curb inflation—dissatisfaction with high food prices helped bring Modi to power—have, for the most part, been quick fixes that do not fully address the structural drivers of India’s inflation problems.



Other than high inflation, another key challenge that the Modi administration faces is the urgent need to kick-start India’s investment. One major reason for the country’s economic slowdown in the past years was a marked downturn in investment spending. Accordingly, the administration has taken some action to speed up processes, improve coordination and introduce new measures to create a more streamlined bureaucracy. However, these initiatives have only shown hesitation and that the government is not ready for the tough debate required to let in foreign capital nor the implementation of a national goods and services tax.



Despite some signs of dissatisfaction within the business community and the hurdles in India’s political system, economic analysts suggest that the government needs more time to implement the much-needed reforms. Frederic Neumann, Co-Head of Asian Economics Research at HSBC stated:



“The election has undoubtedly given Prime Minister Modi a powerful mandate to push through reforms. Financial markets, as a result, have cheered, and expectations are high that the economy will soon emerge from its “funk” and pick up speed. We are believers in India’s potential as well, but have counselled a bit more patience. One issue is that, even if enacted promptly, reforms will only help to raise productivity over time. The other is that it’s not entirely smooth sailing for Mr. Modi’s ambitious agenda. Aside from the inevitable technical hurdles, there are constitutional constraints that might slow implementation of reforms.”



In the same vein, Sonal Varma and Aman Mohunta, economists at Nomura, commented on the first 100 days of the government, stating:



“Broadly speaking, there are two kinds of reforms: those focused on oiling the machine i.e., getting work done, and then those that are more strategic and/or long term. […] In the last three months, the government’s focus has primarily been on oiling the machine; getting work done and done faster. […].The second set of reforms deals with addressing the more structural challenges facing the economy, such as food inflation and boosting productivity in agriculture, a structural fiscal correction with a focus on both cutting subsidies and raising revenues, reducing corruption, dealing with the challenge of urbanization.”



Despite the BJP’s strong position in the lower house of parliament, the limitations of India’s political system mean that the process for structural reforms is likely to be slow. Moreover, despite Modi’s high popularity, he will have to contend with a handful of political constraints. One of them is BJP’s inferior position in the upper house of parliament and another is India’s federal structure, which provides state governments with an important say in several economic policy issues. Overall, the assessment of the first 100 days of the new administration is mixed and whether Narendra Modi’s government will be the harbinger of hope for better economic times in the years to come is yet to be seen.