India for a post-pandemic equitable recovery

Global economic growth (GEG) for 2021 is expected to be 5.5% or higher, with emerging markets posting growth of over 7%. This will be the first synchronized growth since 2017, when global economic output rose 3.3%, and the highest in nearly five decades.

Each of the 27 emerging markets represented in the MSCI emerging markets index (MSCI-EM) will post a positive gross domestic product (GDP) change number for the first time since the aftermath of the Global Financial Crisis (GFC) in 2008.

Aided by gradual normalization in economies and significant monetary and fiscal accommodation in developed markets (particularly the US), large emerging market economies such as India, China, Taiwan and Bangladesh are expected to post strong expansion.

China’s economy rebounded earlier than others, with an eye-popping 18.3% GDP growth in the first quarter of 2021 over the same quarter a year ago. The total value of China’s exports rose by a staggering 38.7% in that quarter, year-on-year.

These enormous jumps reflect a base-effect, as China had shut its factories and locked down its cities during the early part of 2020. Measuring this first quarter growth over the country’s performance two years ago, exports grew by a relatively modest 15.3%, and the trend indicates deceleration. China’s challenge will be to balance the mix of growth in its construction and manufacturing sectors with growth in consumption.

Even as a pall of gloom lifts over the global economy, stark divergences across and within countries are becoming visible. Across countries, the economic decline and then recovery has been shaped by the severity of the pandemic, the ability of healthcare systems to respond, policy responses, on-going healthcare costs for impacted households, and how quickly supply chains have been able to resume normal operations.

Countries and sectors have varied widely on these metrics, resulting in a multi-speed and uneven recovery process. Many countries including India are dealing with the ill-effects of subsequent waves, which have necessitated restrictions on mobility and economic activity.

In some countries, including Canada, the US and China, household incomes have risen in 2020 due to fiscal support. In poorer countries, particularly those with limited fiscal resources, this effect is less pronounced, and in some cases household incomes have underperformed even large declines in GDP per capita.

In countries and segments where incomes have declined, vaccine availability is limited and resources are strained, the economic impact will linger for many more quarters. Only about half the world’s countries are expected to achieve their pre-recession per-capita peaks within two years, the lowest for any post-recession period in the last eight decades.

Stock markets have rebounded, leading an economic recovery in most markets. In local currency terms, markets in the US, Canada, Germany, Taiwan, Korea and India have advanced about 80% from their lows last March (in many cases to new highs). Indian indices are about 25% higher than their prior peak in January 2020.

These indicators signal strong confidence in an overall economic recovery and a comeback of corporate earnings. As economies and corporate earnings recover, central banks will begin to reduce their accommodation. The US Federal Reserve telegraphed exactly this at its June meeting last week.

The sustainability of this cyclical recovery also remains a challenge because frictional costs related to three major long-term drivers have increased. Global flows of trade, technology and talent now have greater restrictions than before, endangering long-term growth and increasing the risk of inflation.

For India, this cyclical recovery should provide a cushion to undertake reforms. India has one of the largest output gaps among emerging markets, estimated at about 6% of GDP. This should keep inflation within India’s targeted band for a while, allowing for policy action aimed at both the supply and demand sides of the economy.

The country faces two major challenges in the medium term. One, India must address the recovery’s unevenness while returning the economy to a balanced growth path in a few years; and two, it must fix balance-sheet crises in the banking, telecom and power distribution sectors.

Some sectors, particularly small enterprises and many segments of the country’s population in rural areas and arid patches, will require fiscal support. If this fiscal support has to come without a significant cost in terms of inflation, the fruits of the cyclical recovery will need to be more evenly distributed.

This will require further reforms in agriculture, infrastructure, education and health, and also a lasting solution to the problems that afflict the public sector of our banking system.