Recent measured GDP statistics for India (and the world) suggest trouble. No misestimation here. Indian GDP growth has declined from the 8.2 per cent recorded in 2018 Q2 to 5.8 per cent in 2019Q1 — one of the largest three-quarter declines in the last 15 years — and if fiscal years 2009, 2010 and 2012 are excluded, it is the third-worst decline.
In the recent debate over ex-CEA Arvind Subramanian’s (AS) allegations that GDP growth in India was over-estimated by an average 2.5 per cent a year, many commentators have commended AS for his astuteness and bravery in making a much-needed call over the “fudging” (there is no other word) of India’s official GDP statistics. The argument goes as follows. Motor vehicle sales are down, two-wheeler inventory are at the highest levels ever, no private investment and animal spirits have disappeared: See, AS is right, GDP growth is being overstated. But as just documented above, official GDP data is documenting the reality of GDP growth being way down.
The government also gets it. Every day there is an announcement of concern and the admission that the economy is in trouble. All eyes (and ears) are rightly on the Budget to be presented on July 5. It is to be seen whether Finance Minister Nirmala Sitharaman listens to the voices of the “old” economists and bureaucrats who want to continue with business as usual, be concerned with the minutiae of the fiscal deficit, and ask for restraint on changing course on three world records that India holds — highest real interest rates, highest effective corporate tax rates, and the worst labour laws.
The same “experts”, bureaucratic or otherwise, who are demanding that international experts be called in to look at Indian statistics (because they are allegedly not capturing one of the worst domestic, and global, downturns) are also arguing for restraint on any policy action — for example, don’t change policy rates, don’t lower tax rates, and indeed raise them to gather more revenue to finance the increased fiscal deficit brought about by the slowing economy. It does not get crazier than this.
But maybe it does, in the form of AS’s “academic” calculation that Indian GDP growth is being overstated since 2011. Before looking at this miscalculation, I have to remind readers that AS was among the very few (along with self) who had the courage to point out that the MPC under the then RBI Governor Urjit Patel was leading India to a downward growth spiral and real policy rates needed to be 200 bp lower than where Patel’s MPC had kept them. That was in June 2017. In June 2018, Patel and the MPC were busy hiking interest rates and expecting growth (and inflation) to accelerate; a year later, RBI Governor Shaktikanta Das’s MPC has reduced rates by 75 bp but real rates, at 3 per cent+, have been where they have been for more than two years.
Real interest rates in India are high(est) because of three policy failures — failure on the part of the Ministry of Finance (MoF) to not reduce government-controlled deposit rates (for example, rates on small savings), the RBI for keeping repo rates so high in the hugely mistaken belief that there is an inflation dragon waiting to be slayed, and the policy makers’ belief that we should not open up our capital markets, including well capitalised NBFCs, to investment from foreign individuals and institutional investors.
GDP growth is low because of policy failures — true today as well as before and hopefully, recognised by all. But now to AS’s allegation that the Indian GDP during 2012-17 had been misestimated and that the “correct” or “actual” GDP growth between 2012-16 was as little as 3.5-5.5 per cent, rather than officially reported 7 per cent — an over-estimation of 2.5 per cent a year . I want to examine AS’s hypothesis and results with the view that he is entirely correct in his assumptions, and method of analysis. AS’s model/assertions rests on the following three pillars:
Pillar 1: Growth in four real variables (exports, imports, credit and electricity— hereafter X variables) can more than adequately proxy real GDP growth for all non-oil exporting countries with a population greater than 1 million. Pillar 2: That for all countries, the relationship is robust for two different time-periods — Period I, 2001-2011 and Period II, 2012-16. Pillar 3: Only for India is there a problem with official GDP data. Hence, AS’s entire analysis is geared to examine how much Indian GDP in Period II veered of the (AS) predicted path.
AS brings all his statistical acumen to confirm that the gap between actual and predicted GDP was as much as 2.5 per cent and that this gap was statistically significant (it could not have happened by chance). Since AS believes that he has a model which can proxy growth, he is broadly right in also believing the “only” explanation for the gap between official and predicted GDP growth is that the former, and not the latter, is in error — either fudged by the political masters, or via the incompetence of statistical authorities around the world that vetted India’s GDP measurement, or both.
I want to accept AS’s method and conclusions if only because the two of us were lonely warriors against the Patel RBI/MPC crusade against inflation and growth. For 89 countries, I collected the data for the four AS variables from the World Bank website (as he does). I successfully reproduced his preferred estimate of 2.5 per cent. When I first read AS’s paper a week ago, I was struck by the absence of any discussion on the statistical possibility that his method could yield mis-estimation errors for other countries. He does have a throwaway line that there were four outlier countries — Cambodia, Tajikistan, Ireland and Ukraine — which were excluded from analysis, but no more. I decided to estimate the AS model for all 89 countries — that is, estimated the gap between measured GDP and AS predicted GDP in Period II.
Here is what I found. Out of 89 countries, for 46 countries the AS country dummy was not significant. For 22 of these 46 countries, the individual country effect was negative — the measured GDP was less than predicted GDP, by an average 0.5 ppt; for the remaining 24 countries, measured GDP growth was above predicted growth by 0.4 ppt. The remaining 43 countries, with significant individual country effects, were almost equally divided between over-estimation (1.7 ppt) and under-estimation (1.8 ppt).
This last result is significant. There is equal over-estimation and under-estimation of GDP in the world (at least for 43 countries). AS is concerned with overestimation. There are 21 such countries, and Germany tops the list, that is, according to AS, German (ECB take note), GDP data is being over-estimated the most. AS should fire his statistical guns at Germany for systematically overestimating GDP by an average of 1.8 ppt a year in Period II.
One final calculation. Reported GDP growth for Germany in Period II was 1.3 per cent ; AS’s over-estimation number is 1.8 per cent; hence, excess GDP over reported GDP (ratio of 1.8 and 1.3) is a high 135 per cent, the highest in the world. Number 8 on the list is Bangladesh with an excess magnitude of 60 per cent; India is 16th (out of 21 countries) with an excess magnitude of 38 per cent (ratio of 2.5 and 6.7 per cent).
The table also reports the excess magnitude calculation for several other countries. For example, reported GDP growth in Brazil was -0.4 per cent; the AS method suggests that Brazil GDP growth is under-estimated by as much as 3 per cent. Jamaica has a positive average GDP growth in Period II of 0.6 per cent and AS seems to have under-estimated growth each year by 2.4 per cent.
Maybe a happiness index can be constructed on the basis of the AS methodology, rather than a GDP misestimate. One strong result — Brazilians are a lot happier than the Portuguese and the Jamaicans are the happiest. I would have believed that if the West Indies were playing well in the World Cup.
(Bhalla is contributing editor, The Indian Express. Views are personal)