That there is a debate about the state of the economy today is neither surprising nor undesirable. Varying motivations may drive those questioning the government’s record on the economic front and there will always be those who will harbour suspicions about what these truly are. The same could, however, be also said about the government’s own side of the story. Whatever lies behind the articulation of sharply differing points of view and assessments, however, a debate on the economy should be welcomed in a democracy if it helps to create a more informed citizenry. Of course, this
means that the focus must be on the substantive issues rather than exclusively concentrating on who is saying what.

GDP: How rapidly is India growing?

One of the key indicators that is usually used to assess the state of the economy is the GDP growth rate – a summary measure of the rate of expansion of production in the economy without any reference to the distribution of the benefits and costs of this growth. By itself the GDP growth is a very imperfect indicator of economic health since it can hide more than it reveals. Rising inequality in the last few decades has generated a worldwide debate on the degree of importance that should be attached to GDP growth rates. The more immediate controversy in India though is not about this fundamental question (except indirectly insofar as the situation in the agricultural sector and agrarian distress or the employment scenario capture attention). Instead, it is about the accuracy of the rate of growth measure itself. This springs from two sources – the introduction of a new GDP series in 2015 and the demonetisation announced in November 2016.

GDP figures, whether quarterly or annual, are always estimates, arrived at using a combination of methods because it is not possible to conduct a complete census of all economic activities. These estimates are also revised a number of times as more data becomes available before they are final. In the Indian case, we also have special difficulties in estimation on account of a large unorganised sector whose operations do not generate records which can be accessed to determine the level of their activities. Further, to arrive at real growth rates, one must adjust also for the changes in prices or inflation – and appropriate price indices are not easily available for all products or sectors. These are general problems with regard to GDP estimation that always exist. Periodic changes in the base year of the GDP series accompanied by some revisions in the methods are also routine and do not usually invite great controversy. It has, however, been different with the introduction of the new GDP series with 2011-12 as the base year because this involved very fundamental changes in the methods by which GDP estimates are arrived at. It is because of this that a back series of GDP (comparable figures of GDP for years before the new base year) could not be easily generated the way they were when a new series was introduced in the past.


There were at least two, maybe three, important consequences of the introduction of the new GDP series that generated scepticism about the accuracy of its estimates. The first is that for the years from 2011-12 onward for which the data from the older series with 2004-05 as the base year were also available, the new GDP series threw up growth rates that were significantly higher. Everyone’s understanding till then was that the beginning of the current decade saw the onset of a significant slowdown in the growth of the Indian economy. The new GDP series suddenly showed a different picture, of the economy experiencing at best a minor blip from which the growth recovery was quick. What has added to the doubts about this being correct is that the new GDP series throws up trends in the case of other variables which are more likely to be signs of a sluggish economy. The stagnation in investment and trade (both exports and imports) that has persisted through the tenures of two successive governments is an important case in point.


A second, related, consequence of the new GDP series was an exceptional divergence between the industrial growth picture shown by the GDP measure and that emerging from the Index of Industrial Production (IIP) issued by the same source – namely, the Central Statistical Organisation. The introduction of a new IIP, after the launch of the new GDP series and with the same 2011-12 base year, has not resolved the controversy as there still is a very large difference between the two measures of industrial growth. By the new IIP (a volume measure), manufacturing production in 2017-18 was not even 27 percent more than it had been in 2011-12 – meaning that it grew at an average of around 4 percent per annum, making this one of the worst periods of industrial stagnation in India since independence. Real manufacturing GDP or GVA (a value-added measure) in the same year on the other hand was almost 54 percent above the 2011-12 level. Capital goods production data from the IIP, and also the figures for imports of capital goods, are also consistent with the picture of investment stagnation – and the stagnation of investment in the manufacturing sector is itself its most important reason. How has value added in manufacturing grown reasonably rapidly without comparable growth in the volume of production and without expansion of investment in the sector? The absence of a satisfactory answer to this question and the fact that it is in the estimation of manufacturing GDP that the change in method was most fundamental means that controversy will continue to dog the new GDP series. Adding to this is the fact that in the new series, there is also great instability of the data for the same period as the estimates go through successive revisions.

The consequences of demonetisation

At least as far as the short-run effect of the demonetisation decision was concerned, it would be hard to find any self-respecting economist who would deny that it disrupted regular economic activity. There was also no question that a measure that hit at cash transactions would affect the unorganised part of the economy more adversely. One aspect of the controversy about GDP growth in fact relates to this. The methods of GDP estimation for the unorganised sector are not appropriate for capturing the effects of exceptional disruptions of the kind demonetisation was. It is possible therefore that the scale and duration of this disruption was greater than what may be indicated by GDP data – which means that the actual GDP growth since November 2016 could lie anywhere between what the official statistics show and significantly below that. Depending on one’s interpretation of demonetisation’s effects, one could lean towards the lower or the higher side of this range. The absence of any hard data that would clinch this issue allows therefore room for controversy. The likelihood that the introduction of GST also had short-term disruptive effects – which is accepted by even many in favour of this change in the tax regime – fuels this further.


The real issue with demonetisation was always whether the longer-term benefits of the measure would outweigh its inevitable short-term costs. Even on this, most economists doubted from the very beginning whether this would be the case – for the substantive reason that theoretically as well as empirically it could be easily established that it wasn’t possible that black earnings were held primarily in the form of cash. Then came the evidence that 99 percent of the outlawed currency was returned to the RBI – which of course meant that even the black wealth held in cash form was not destroyed by demonetisation.


This was not the government’s expected outcome, but it put up a brave face. The evidence on the amount of currency returned and the conclusions drawn from it about the failure of demonetisation were pitted against an argument that the very same process has revealed to the tax authorities the identities of all those holding large sums of cash – thus making it possible to unearth illicit incomes and garner greater taxes in the future.
There still, however, remains speculation, as personal income tax collections for 2017-18 cannot substantiate it – in fact, the actual collections fell some distance short of the budget estimates. The argument that evidence in support of this proposition will emerge in course of time is unlikely to persuade the critics of demonetisation though. For one, how much was deposited does not change the fact that cash holdings accounted for only a fraction of black wealth. Moreover, the argument about more information being available to tax authorities also implicitly assumes that those who deposited cash earned from illicit incomes must have made terrible miscalculations. This is because they would have deposited the cash only if they were reasonably certain that any resultant additional burden of tax liabilities in the years to come would not exceed the amount they were depositing today. Had this not been the case, suffering a one-time loss of the cash held should have been their preferred option in the wake of demonetisation.

Fuel prices and the falling rupee

The early part of the Modi government’s tenure had seen a significant decline in domestic fuel prices and this was also a contributor to the decline in inflation rates. Now the situation has changed, and the government naturally is facing some flak. One of the explanatory factors put forward for rise in fuel prices – the depreciation of the rupee (which increases the rupee price of a dollar worth of imports) is itself a potential embarrassment for the government and a case of the boot now being on the other foot.


The initial fall in fuel prices was entirely due to the decline in international oil prices. In June 2014, the international price of crude was around $110 per barrel. Then it started falling steeply and by January 2016 had gone below $30 a barrel. What happened, however, was that the government chose to take advantage of this to raise more taxes. A heavier taxation of POL products followed, which of course limited the extent to which reduction in international prices were passed on to consumers, and this was chiefly the central government’s doing. This became one of the major sources of propping up the revenue situation and reducing the centre’s fiscal deficit. Naturally, therefore, there were demands to reduce the tax component in fuel prices once international oil prices started firming up.


Unable to tap alternative sources of revenue, however, the government has found it difficult to reverse fully the excise duty increases. Even the introduction of the GST has at least initially hit revenue realisations. The rise in international prices has thus been passed on to consumers. This is the reason that domestic fuel prices in India are now higher than in 2014 despite international prices being still significantly less than in July 2014 even after adjusting for the depreciation that the rupee has experienced in the interim. 


The fall in international oil prices from mid-2014 had also helped reduce the deficit in India’s external transactions since it reduced the import bill by much more than it reduced earnings from exports of petroleum products. Some of these gains have also been reversed with the turnaround in the movement in oil prices. Combined with a widening non-oil trade deficit, the gap between India’s foreign exchange expenditures and earnings have increased in the last two years. This gap can only be covered by inflows of foreign capital or by running down foreign exchange reserves. If there are adequate inflows, shortage of foreign exchange wouldn’t threaten the value of the rupee and any excess of inflows could also increase the country’s foreign exchange reserves. A widening gap between expenditures and earnings, however, tends to strengthen and self-reinforce an opposite tendency of outflows of short-term capital by creating expectations of a depreciation of the rupee. The vulnerability that the rupee has shown in recent times, therefore, may not be entirely attributable to ‘global’ factors.


So, the debate on the state of the Indian economy continues. The issues touched upon in this article are not all that are important for assessing this state though they are the ones in immediate focus. Moreover, the indicators most relevant for this purpose may also be different depending on where one is placed within the economic structure. Nevertheless, whether the economy is in a protracted slowdown spanning the time periods of two different governments, or is it booming, is a question of general concern. Official statistics unfortunately do not provide an unambiguous answer. n

Mazumdar is a professor with the Centre for Economic Studies and Planning, Jawaharlal Nehru University.