Rajan Warns Against Perils of Breakneck Economic Growth
outlookindia 2015-09-18 14:30

Reserve Bank Governor Raghuram Rajan today warned against the hazards of growing at a break- neck speed and called for drawing right lessons from Brazil, which was a high growth market till recently but is now beset with economic woes, leading S&P to demote it to "junk" status.


Once praised for its robust economic growth, the South American country is facing massive public debt, corruption, sinking companies and bad loans.

Stating that growth has to be obtained in the right way, Rajan referred to the ongoing troubles in Brazil, which he said "offers a salutary lesson."

"Only a few years ago, the world was applauding its thriving democracy, robust economic growth, and the enormous strides it was making in reducing inequality.

"It grew at 7.6 per cent in 2010...Yet the country is expected to shrink by 3 per cent this year, and its debt just got downgraded to junk," he said, adding stretching the public balance sheet too far is not the way for sustainable growth.

While the Brazilian authorities are working hard to rectify the situation following the last week's downgrading of its sovereign rating to junk status by S&P, Rajan said "let's not ignore the lessons their experience suggests."

"Paradoxical as it may seem, Brazil tried to grow too fast. The 7.6 per cent growth came on the back of substantial stimulus after the global financial crisis. In an attempt to keep growth high, its central bank reportedly was pressed to reduce interest rates, fuelling a credit spree that overburdened customers who are now struggling to repay."

Stating that such break-neck and induced growth is not advisable, the RBI Governor said, "growth has to be obtained in the right way. It is possible to grow too fast with substantial stimulus as we did in 2010 and 2011, but only to pay the price in higher inflation, higher deficits, and lower growth in 2013 and 2014."

But he was quick to add that India was not in the same situation today. "But with the world being an inhospitable place, we've to work hard to strengthen our current recovery and put it on a more sustainable footing."

It can be noted that after a record-breaking growth of nearly a decade at an average of over 8.3 per cent, which culminated in 2010-11 period on the back of fiscal and monetary stimulus following the 2008 global recession, the Indian economy slumped to a low of 4.5 per cent FY14, while inflation reigned supreme at double-digit levels.

Offering support to return to higher growth trajectory Rajan said "while monetary policy will accommodate to the extent there is room, we'll expand sustainable growth potential only by continuing to implement reforms government and regulators have announced." 

"These are intended to strengthen the environment for doing business and to expand access to financing, and these will then in turn allow our companies to find and exploit their core competencies," the RBI chief said.

Returning to the Brazilian quagmire, Rajan recalled its then President Lula da Silva likening the huge discovery of oil reserves to "winning a lottery ticket".

Analysing the Brazilian crisis, he said its government -funded development bank hugely increased subsidised loans to corporations. Certain industries were favoured with tax breaks while price controls were imposed on gasoline and electricity, causing huge losses in public sector firms while the Government lost in high budget deficit, Rajan noted.

He said monetary policy can aid strengthen the current economic recovery in India, but added, "We will ultimately expand sustainable growth potential only by continuing to implement reforms Government and regulators have announced."

He iterated that for RBI the objective is to support sustainable growth with low inflation, and said "the key tasks are to keep inflation low not just today but well into the future so that we get moderate nominal interest rates that satisfy not just the vocal borrowers but also silent savers."

The retail inflation for August came in at a record low of 3.66 per cent, while WPI contracted for the 10th month at -4.65 per cent, which he attributed to very low base effect.

The RBI has a CPI target of 6 per cent by next January and 4 per cent by January 2018.

Warning against a repeat of what has happened in Brazil and is happening in China, he said "we also need to clean up the banking system of distressed assets so that it is in a position to fund growth again.

"While we understand the difficulties industry faced and will work as hard as we can on improving the environment, we must resist special interest pleas for targeted stimulus, additional tax breaks and protections, directed credit, subventions and subsidies, all of which have historically rendered industry uncompetitive, Government over-extended, and the country incapable of regaining its rightful position amongst nations," Rajan said.

He concluded by saying that "we must focus on keeping inflation low and avoid using monetary policy alone and short- term Government incentives to fuel short-term economic growth.

via:www.outlookindia.com
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