The sudden 5.9 per cent rise in factory output in November 2011 is hopefully an indication that the economy is finally beginning to look up after five months of sluggish growth. It will be,however,too early to conclusively say so since capital goods production an indicator of investment activity in the economy dropped in November too despite the jump in industrial output. In October,capital goods output had contracted 25 per cent,but the fall,at 4.6 per cent,was not so steep in November. Besides,the integrity and quality of data in India is not so remarkable. Having said that,it is imperative every opportunity is seized to nurture the greenshoots.
The first opportunity falls on January 24 when the Reserve Bank of India reviews the monetary policy. Surely,it will not look just at the IIP data before deciding whether or not to cut key policy rates. Many argue that an industrial recovery combined with uncomfortable levels of inflation may require the RBI to maintain the pause in monetary policy tightening announced on December 16. An early reversal may jeopardise the price situation. After all,it took 13 consecutive rate hikes over 22 months for inflation to drop to single-digit levels. But then food inflation has been negative in the previous two reporting weeks. Also,WPI-based inflation is estimated to drop to 7 per cent by March. Purely based on expectations,there is a case for a cut in key policy rates. The RBI will also have to ensure adequate liquidity because companies may depend more on domestic banks for credit as the Euro crisis deteriorates drying up funding from the Euro region.
A rate cut will definitely lift the spirits of consumers and companies. But that is just the starting point. What is more critical for growth is sustained policy reform and fiscal consolidation. The period of elections must be used by the government to work with mission zeal on large infrastructure projects. The Budget in March first week must set the tone for both creating the right business environment and setting the governments own fiscal house in order. Without waiting for state elections,the government must try and build political consensus to push through second generation reforms such as Goods and Services Tax. GST alone will add 1 per cent to the GDP. On the expenditure side,the government is left with little choice but take tough decisions such as pruning of subsidies. These actions will build the foundation for 8-9 per cent growth rate in the Twelfth Plan beginning April 2012.