Negative returns

The fall in industrial production in October 2008 is an indication of what sudden drying up of liquidity can do to production. For the first time in a decade output actually fell, rather than merely having a lower growth rate. October was a very difficult month with both big and small companies suddenly witnessing huge credit constraints. With a slowdown in the world economy, the months ahead are going to be difficult and there is no room for complacency. Looking ahead we expect that output will revert to previous levels and we will see some positive growth, though slow, in the coming months. This is because the disruption in credit that occurred in October has been broadly corrected, but as world demand continues to shrink, India cannot but be affected.

In terms of the policy response to the global crisis there are important lessons to be learnt from the liquidity crisis. Fortunately the RBI acted quickly and with big changes in interest rates as well as by taking unorthodox measures to increase liquidity. In retrospect, it is clear that it was very good that Governor Subbarao paid no heed to those looking at past data and saying that inflation and credit growth were still high and the RBI should be cautious. Along with former finance minister P. Chidambaram, he took bold decisions in extraordinary times. However, now that the immediate crisis has been averted, there appears to be neither clear leadership nor a clear agenda on how the slowdown will be handled. For instance, it is still not obvious that the fiscal and monetary stimulus packages announced since then will be enough. The only lever the government really has is to prevent investment from crashing by keeping the morale of domestic and foreign investors high.

Rather than more of the usual incremental steps and little packages which can have little impact on the macroeconomy, the government needs to find ways to give a big impetus to the economy. Given the existing level of public debt, it is not a good idea to increase government borrowing indiscriminately. There needs to be thorough and forward-looking examination of the macroeconomic picture.

Assuming the worst-case scenario, such as a continuation of negative IIP growth, we need to prepare an outline of how the worst can be averted. India has often accepted bold and radical change during a crisis; there is little reason to doubt it will do so now as well.