Costly mistake

Growth slowdown is the price we pay for the wrong policies of pre-crisis years

The growth rate of India's GDP has declined to below 7 per cent per annum. When, in 2008, the GDP growth in India did not fall as sharply as it did in the US, the epicentre of the global financial crisis, we hoped that India had escaped the crisis. But the growth in production has fallen slowly, and with a lag. However, the downswing of the cycle around the trend line is now showing signs of persistence. Further, the lack of macroeconomic stabilisation policies imply that we may not be able to engineer the kind of sharp upturn in economic growth that the US economy appears to be currently witnessing.

The GDP growth estimate for 2011-12 has been revised downwards to 6.9 per cent. This means that growth has declined from 9.6 per cent witnessed before the global financial crisis by 2.7 percentage points. Even though this growth rate is amongst the highest in the world, what matters to us is that this growth may be below our potential growth.

If the long-term trend growth rate of the Indian economy is about 7 to 7.25 per cent, then growth has now slipped below trend. The cyclical downturn should be seen in the context of the difference between advanced economy business cycles and emerging economy business cycles. In advanced economies like the US, the trend growth rate is very low, nearly zero, and therefore in a business cycle downturn the economy sees an actual fall in production. In a recession, GDP growth rate turns negative. In emerging economies, trend growth is positive. A business cycle downturn can be viewed as a fall in the growth rate of GDP around a trend line. Since the 1991 liberalisation India has witnessed cycles around a trend growth rate, as observed in growth cycles in other emerging economies.

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