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'2012 will be the worst year in a decade for the Indian economy'

India is hurtling towards what could be its worst year in a decade.

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Rural income is increasingly insulated from agricultural income.

2012 will be the year the Indian economy slips back into an abyss. There will be fewer job opportunities for those seeking work and lower increments for those who are already employed. Inflation will remain high-around 7 per cent-eroding the standards of living of the middle class. If inflation doesn't go away, interest rates will continue to remain high, making car loans and home loans unaffordable. Overall, consumption, a key driver of the economy, will slow down sharply. Faced with low demand and a high cost of borrowing, India Inc, which is more confident after two decades of liberalisation, will continue to look for greener pastures abroad. Investment in India will crumble.

A self-perpetuating vicious cycle would have been set in motion. That may result in 6 per cent growth and above 7 per cent inflation, something that has not happened in any single year in more than a decade. The prosperity of the middle class acquired through the 2000s will be seriously dented.

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This scenario will not unfold because of possible double dip recession in the US or an imminent collapse of the Eurozone. It will more likely unveil itself courtesy the UPA Government. Its dithering, nearly paralytic style of governance over the last 12 months has cost the country in 2011. Its continued state of denial about the precarious state of the economy and its own role in bringing things to such a pass could damage the economy deeply in 2012. After all, if the Government does not accept that things are broken, it will make no attempt to fix them. Everything that has derailed the India story is known. But UPA fears even acknowledging the known. The 2010s should have been the decade when India attained 10 per cent growth. It may slide to 6 per cent instead.

UPA in state of denial
The Government's state of denial was on full display in the last fortnight of December. At a meeting of his council of trade and industry on December 23, Prime Minister Manmohan Singh admonished the cream of India Inc, including Mukesh Ambani and Sunil Mittal, for spreading a mood of gloom. Said Manmohan Singh, "I must confess that it is a little disappointing to sometimes hear negative comments emanating from our business leadership or be told that Government's policies are causing slowdown and pessimism in the industrial sector. Such comments have added to uncertainty and have emboldened those who have no stake in our economic growth." The business leaders present cowered in front of an angry Prime Minister. Said Mukesh Ambani, "Sir, I don't share the gloom and pessimism on India?To me, India remains the best investment destination." The statistics say otherwise. In 2011, the outward foreign investment from India totalled a massive $29 billion. The inward direct investment number was only $23 billion. Capital does not flow out of a country that is viewed as a very attractive investment destination.

The Government's new strategy of attack as the best form of defence in the face of its own shortcomings was also evident in a speech made by Montek Singh Ahluwalia, deputy chairman of the Planning Commission and the Prime Minister's top economic aide, in Mumbai on December 21. In a lecture to commemorate two decades of economic reform, Ahluwalia sought to put a positive spin on the below-par growth rate expected in 2011-12. Said Ahluwalia, "I see growth at 7 per cent for the whole year.We have to see our growth in the context of the fact that Europe will possibly record zero growth. Do you think we should call it (India's) growth crisis?"

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Ahluwalia's point of comparison was a sclerotic Europe, gripped by a sovereign debt crisis, an economy which has never really recovered from the financial crisis of 2008. He would be better advised to do a comparison with India's own growth rate in 2010-11 which was 8.5 per cent.

The Government's desperate attempt to present a positive picture of growth glosses over the sharp decline in key macroeconomic indicators through 2011. Growth in the quarter between January and March 2011 was a healthy 8.4 per cent. It fell to 7.7 per cent between April and June, before falling to 6.9 per cent between July and September. It is still early for an accurate estimate of what has happened between October and December, but it would be safe to assume that things have got worse.

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The Index of Industrial Production for October was at -5.1 per cent, the lowest this year and the lowest since the period of crisis in 2008-2009. Its impact will be felt on the GDP numbers. Even Ahluwalia's own estimate of 7 per cent suggests a downward slide until at least March 2012. To achieve 7 per cent growth in the financial year, India needs to average 6.7 per cent in the period between October and March. What is clear is the steady downward slide. That bodes poorly for economic growth in the rest of 2012.

Job market feels the pinch
The fall in economic growth isn't just a statistical phenomenon. The impact is real. It is already being felt in the job market. Says Sunil Goel, director of GlobalHunt, an executive search firm, "If we look at the scenario in 2011, hiring in the first two quarters (which had relatively high growth) was on an upswing. The last two quarters were not great because of the slowdown. In 2012, the first six months may not be very good for hiring." Says V. Suresh, executive vice-president of naukri.com, "There is already a clear slowdown at the middle and higher levels. So far, campus recruitment prospects seem okay." Says Gaurav Lahiri, managing director of management consulting firm Hay Group, "The first quarter of 2012 is extremely uncertain, all companies are on wait and watch. A lot of companies are also choosing to hire as and when a requirement comes in. They are not hiring in anticipation." Goel says that he expects salary hikes to be between zero and 15 per cent. With inflation hovering at close to 10 per cent, most employees can expect a fall in their real income in 2012. Goel is hopeful the second half of 2012 may be better for the job market. But that depends on a recovery in growth.

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Prospect of recovery
Economist Surjit Bhalla, chairman of Oxus Research and Investments, is optimistic about the prospect of recovery in 2012. He readily admits he is in a minority. Says Bhalla, "I think India will be back to 8-8.5 per cent growth in 2012-13. This is subject to interest rates coming down." The Reserve Bank of India (RBI) hiked interest rates 13 times by almost 4 per cent between March 2010 and October 2011 in an attempt to curb inflation. The impact on prices has been minimal. Growth has been hit. The fact that the RBI chose to pause its interest rate hikes in its December review of monetary policy has given rise to optimism that rates may actually start coming down in 2012.

Deepak Parekh, chairman of HDFC Bank, believes that rates will begin to come down in the first two-three months of 2012. He is not as optimistic about growth as Bhalla is. Says Parekh, "Growth will be 7.5 per cent in 2012-13." By Bhalla's estimate, every one percentage point decline in the prime lending rate leads to an additional GDP growth of 0.6 per cent. Says Bhalla, "I expect prime lending rate to fall by two percentage points, adding 1.2 per cent to GDP in 2012." The reason for Bhalla's optimism lies in the fact that inflation has begun to fall. Food inflation for the week ending December 17 was just 0.42 per cent, the lowest in six years. Bhalla has one caveat. "My calculations assume that Europe will not collapse.

It is looking increasingly unlikely that it will. I am assuming that Europe will grow by 1 per cent." The one point of agreement among the Board of INDIA TODAY Economists (see box) is that domestic factors matter more than external factors in determining India's economic fate in 2012.

Self-inflicted wounds
Not everyone is as sanguine as Bhalla. Economist Percy S. Mistry, who headed a high-powered Government committee on making Mumbai an International Financial Centre, argues that high interest rates are just one reason for the slowdown. There are many more. Says Mistry, "India has to deal with many self-inflicted wounds in 2012." He is particularly concerned about the loss in confidence (because of poor governance) among domestic and foreign investors in the India story. "That is contributing to the collapse of the rupee and decline in investment-led growth," he says. He is critical of the Prime Minister for trying to shift blame for this loss in confidence. "There is no point in the Prime Minister lamenting the miasma of negativity surrounding the situation. He is responsible for it," says Mistry.

A continuously declining rupee could put serious pressure on India's worsening current account deficit. It will increase the import bill largely on account of higher fuel prices. It is unlikely to boost exports which are constrained by painfully slow growth in major markets like the US, Europe and Japan. The slowdown in exports is recognised by the Government. Commerce Secretary Rahul Khullar has repeatedly issued warnings about the slowdown in exports in recent months. A further slide in the rupee will complicate the fight against inflation as higher oil prices feed into the economy. If inflation does not come down, RBI is unlikely to reduce interest rates, puncturing a hole in the optimism of those who share Bhalla's view of the economy. The other deficit that is unlikely to show any improvement is fiscal deficit. The fiscal deficit in 2011-12, essentially the excess of the Government's expenditure over its income, is likely to be around 5.5 per cent. The Government's expenditure will only grow. The expensive Food Security Bill is likely to be passed in the Budget session in February-March. There is little indication of an increase in the Government's income. Estimates of advance tax collections for 2011-12 show a sharp fall. A burgeoning fiscal deficit will crowd out private investment as the Government corners more of the limited resources available in the economy.

It will also put pressure on inflation, making cuts in interest rates less likely. Says D.K. Joshi, chief economist at rating agency CRISIL, "Fiscal deficit is something that will have to be watched. It will have implications on monetary policy." The outlook for 2012 on fiscal deficit is not positive. Says Mistry, "The state elections in 2012 (and a general election in 2014) will fuel populist tendencies at precisely the wrong time. There will be a bias toward increasing unproductive public expenditure, thus widening fiscal deficit and increasing public debt and debt service pressures, at a time when economic circumstances require the dramatic reduction of both. If these reductions do not occur, a European fate awaits India."

Options for Government
Even without a European fate, India is hurtling towards what could be its worst year in a decade with a low growth rate of 6 per cent and a high inflation rate of 7-8 per cent. A major international crisis would only make things worse. The Government could arrest the slide with decisive policy action. It has a plethora of options which could bring back confidence. It could try, once again, to push foreign investment in multi-brand retail. It could liberalise foreign investment restrictions in other sectors like insurance. It could sort out the problem of environment clearances for industry. It could ensure that thermal power stations receive adequate supplies of coal to keep India powered up. It could legislate on a land acquisition bill to ease what has become a big bottleneck for industrial investment. The question is, will it?

Says Mistry, "Growth is slowing to a below-7 per cent trajectory for reasons that we all know.". But the Government isn't ready to face the truth. India's 1.2 billion people should be afraid, very afraid.

- with Shravya Jain and Rajesh Sharma