The equity markets exuberance should not distract us from the sobering fact that unfortunately the economy faces several significant downside risks. These are posed by a persistent food inflation; a more generalised hike in retail inflation; the low probability of any interest rate softening; continued weakness in private investment; and the lack of fiscal space that rules out increases in public expenditure and public investment. While the Indian electorate will as always be patient, the same cannot be said about the business and investor community. And surely Narendra Modi and his team recognise this. I am sure they will want to hit the ground running. Here are some suggestions for their consideration.
First, Modi will do well to lower the enormous expectations that his campaign has aroused and which is reflected in the market hype. So Modi or his finance minister would do well to bring about some realism by outlining the challenges faced by the economy, the rather unholy mess that has been left behind in governance. But they must do so while reiterating their resolve to address these challenges and bring the economy back on track for generating the much-needed employment opportunities and sustaining rapid growth.
Second, the new government will considerably improve its credibility by bringing out a White Paper on Fiscal Deficit that provides an honest and detailed analysis of the actual fiscal deficit in 2013-14 and its likely level in 2014-15. The fear that credit rating agencies may get spooked will not be borne out if the White Paper also provides a clear time path to redress the deficit. Such a White Paper should be brought out within four weeks of the government taking office.
Third, and perhaps by far the most important is the need to restore investors confidence that has hit rock bottom as seen in rising capital outflows. Indias growth story and employment generation cannot be reignited without reversing the decline in the growth rate of private investment. There is an argument that the central government has minimal role in improving the business/investment environment because the onus for this is principally on state governments. This is only partially true. As far as the World Banks Ease of Doing Business ranking is concerned, India has slipped from 131 in 2013 to 134 in 2014, out of 189 countries. The central government can provide the lead by declaring its objective to improve Indias ranking in the World