New Delhi, Dec 18: Citing reasons for the “severe illness in the economy”, former Chief Economic Advisor Arvind Subramanian has pointed out that India is now facing a “Four Balance Sheet” challenge — comprising banks, infrastructure, plus NBFCs and real estate companies — and is trapped in an adverse interest growth dynamic.
In a Harvard University Working Paper ‘India’s Great Slowdown: What Happened? What’s the Way Out?’ the authors Subramanian and Josh Felman have said that India is facing an adverse interest growth dynamic, in which risk aversion is leading to high interest rates, depressing growth, and generating more risk aversion.
On the FBS (Four Balance Sheet) challenge, the paper said that examining the pattern of growth in the 2010s, standard explanations cannot account for the long slowdown, followed by a sharp collapse.
“Our explanation stresses both structural and cyclical factors, with finance as the distinctive, common element,” it said.
The first wave — the Twin Balance Sheet crisis, encompassing banks and infrastructure companies — arrived when the infrastructure projects started during India’s investment boom of the mid-2000s began to go sour.
The paper said that the NBFC-led credit boom financed unsustainable real estate inventory accumulation, inflating a bubble that finally burst in 2019. “Consequently, consumption too has now sputtered, causing growth to collapse. As a result, India is now facing a Four Balance Sheet challenge – the original two sectors, plus NBFCs and real estate companies,” it said.
On the remedies, Subramanian and Felman have said that the standard remedies are unavailable: monetary policy is stymied by a broken transmission mechanism; large fiscal stimulus will only push up already-high interest rates, worsening the growth dynamic.
“The traditional structural reform agenda – land and labour market measures – are important for the medium run but will not address the current problems. Addressing the Four Balance Sheet problem decisively will be critical to durably reviving growth,” the authors said.
Raising agricultural productivity is also high priority. And even before that a Data Big Bang is needed to restore trust and enable better policy design, they added.
Subramanian and Felman have proposed several strategies to halt the current vicious economic spiral, the most critical one being to address the Four Balance Sheet challenge – the stress in banks and NBFCs on the financial side, and infrastructure companies and real estate on the corporate side.
“Policies need to act on the 5 Rs: Conducting a new Asset Quality Review to cover banks and NBFCs (Recognition), making changes to the IBC to ensure that participants actually have incentives to solve the problem (Resolution), create two executive-led public sector asset restructuring companies (“bad banks”), one each for the real estate and power sectors (Resolution), strengthening oversight, especially of NBFCs (Regulation), Linking recapitalisation to resolution (Recapitalization), shrinking public sector banking (Reform),” they added.
Flagging the danger of these policies being politically difficult, the authors have said that there is, of course, a reason why these policies have not been implemented before.
“They are politically difficult, and other easier alternatives have seemed more attractive. But the government currently has a tremendous amount of political capital.”
The paper also stresses that these since no other policies have succeeded, this will be a laborious task.
“And by now all the alternatives have been tried, and found wanting. So, finally, after a long and difficult decade, the government has both the opportunity and the clear need to resolve the Four Balance Sheet (FBS) problem. But we must be clear. Realism demands a recognition that resolving the FBS problem, as well as the difficulties in agriculture, will inevitably take time. A slow-bleed over many years led to the current predicament. The way out will also be laborious.”
The authors have warned against entrenched capitalism. “India’s weak state capacity and the entrenched stigmatized capitalism has stymied private initiative and honest public officials for a very long time. There are no quick solutions. A corollary is that sustained effort will be needed. Complacency remains an abiding danger,” Subramanian and Felman said.
