Indian reforms take time, but support markets

Indian leader Narendra Modi has made some progress with economic reforms – but there remains much more to do.

| 5 min read

Narendra Modi has dominated Indian national politics since his first election win in 2014. He has lost popularity during his second term, with the public concerned about the strong second wave of the Covid-19 virus and some criticism of the role of the federal government. There are also worries about future inflation and various groups against his reforms.

When we last reviewed India, we drew attention to the prospects for good growth and the continuing reform programme, as well as to the high equity-market valuation. We thought it likely that valuations would stay high whilst delivering performance from the high growth rate as the economy recovered. So it has proved, with the Indian Sensex index up 25% year to date and up 49% in the year to end September and the price-earnings multiple sustained at 32 times.

Today, we should examine the negatives that market sceptics and Modi critics put forward. The recent deaths of farmer protesters, hit by a car connected to a Minister in the government, has been a most unfortunate incident. The three Farm Bills were passed a year ago, but there are still strong opposing forces to their implementation. They are designed to give farmers extra choices beyond selling their produce to mandis or wholesale markets organised by the government. The state has promised not to withdraw guaranteed minimum state prices, nor to remove the option of selling in this way. The idea is to encourage farmers to sell direct to the food and retail industries under private-sector contracts in the hope of better prices and in the belief that direct links will benefit both sides from the collaboration it can engender.

Farmers want protection

Farmers in opposition fear it will lead to an end of state protection, and that in due course the private sector will grind prices lower for them. Indian agriculture still employs more than 40% of the workforce for under one fifth of national output. Many farms are very small, uneconomic and not mechanised.

The farming battles are a cameo of the general difficulties facing a reforming government. Mr Modi’s approach is to liberalise the Indian economy in many ways, tackling entrenched price controls, state organised monopolies, nationalised industries and a raft of subsidies. He is also trying cut through the complex web of economic regulations, taxes and subsidies imposed by each state within the federal structure.

His greatest success so far has been the introduction of a simplified federal GST or turnover tax to replace many different taxes on sales with many different rates. These stood in the way of more cross-border trade between states of the union. He has cut the rate of corporation tax to 25% for many domestic companies.

He has had less success so far with land reform, with privatisation of state enterprises and with banking reforms. Indians on low incomes have got used to a raft of price controls, subsidies and government interventions which they think help, but which taken together probably impede progress to higher levels of productivity and real incomes.

India had a bad second wave of Covid-19 and is fourth in the list of total deaths behind the European Union, the US and Brazil. Adjusted per million of the population India’s death rate and case rate is low, though some think it is understated given the stresses on the health system in many parts of the country. Whilst Mr Modi lost support over this, his opponents did not do well either. Various state governments were also held to blame alongside the federal government. Indian inflation is above 5%, with expectations for further rises. There are worries about the prices of basics in a country with many on low incomes who fear a squeeze as food and fuel goes up.

Faster growth than China

Forecasters are anticipating GDP growth of more than 9% in the current recovery year, to be followed by more than 6% next year. As China rolls over from a growth rate more than 6% and talks of slower but better-quality growth India remains the one giant economy offering faster growth. India starts from lower average incomes and has a rule of law and democratic traditions. Whilst some are critical of Mr Modi’s severe approach to the press and opposition, they can at least complain about it.

Mr Modi’s style is Hindu nationalist. He has sought to broaden his coalition by seeking to embrace other non-Muslim faiths in his appeal. He has avoided any association with western styles and reforms and is more nationalist than liberal capitalist reformer. He avoids undue association with the main western countries whilst remaining an opponent of China and Pakistan. He is currently fighting a possible energy shortage by opening new coal mines and allowing more electricity generation from coal. He wishes to ensure more is made in India and is keen to attract additional industrial investment.

Indian equities remain expensive and could be hit by any general world downturn or new variant of the virus. It also remains unique among the major economies in having scope for faster growth, and the chance there will be more positive reforms despite the political difficulties and delays on the way. Some investors may turn more to India given the many difficulties facing investors in China, anticipating more patchy and complex progress to a modernised economy.

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Indian reforms take time, but support markets

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