Inflation has declined but there is no room for complacence. Export sector needs a special push.
The decline in vegetable prices is good news for the economy. Not only does it mean that the RBI is less likely to raise rates, though Governor Raghuram Rajan has always acted against market expectations, but also that it will lower consumer price inflation. If the APMC reforms, of removing fruit and vegetables from the APMC list, being undertaken in the Congress-ruled states, are followed by reforms in other states, domestic food markets will start becoming more competitive and efficient.
On the trade front, the widening of the current account deficit is not good news. The current account deficit adjustment that India needs should come from a pick-up in exports. What we could easily get, instead, is an improvement in the current account deficit that comes from a decline in imports due to lower industrial activity. Higher growth in exports could come about with a pick-up in external demand, that we can hope for if the US economy continues to do well, and an increase in the competitiveness of the Indian rupee. The real value of the rupee depends on both the nominal exchange rate and the inflation rate. Here again, the depreciation in the nominal exchange rate and reduction in the inflation rate are positives. A further rupee depreciation would help, and since the RBI is intervening in the spot and forward markets and has in place restrictions on cross border capital flows, it can bring about a calibrated change in the rupee-dollar rate to match the inflation differential. Thus, if the rupee-dollar rate was made to depreciate by 8 per cent per annum, the rupee would not become uncompetitive and export growth could be pushed.
There will still be two issues to handle. First, the reduction in inflation in recent months should not be grounds for complacency and India should move to a better system to target inflation and put in place a framework for a nominal anchor for monetary policy. Second, there remain many infrastructural constraints to export growth. These include roads, power, ports, airports, and the ease of doing business in the country, all of which contribute to making exports uncompetitive. Policymakers cannot take the current drop to mean that the problem of inflation is over.