The U.S. is the second-largest manufacturer in the world but it is heavily dependent on other countries for imports. Owing to tensions and tariffs, imports from China have fallen sharply in recent years. That provides a huge opportunity for India, provided it can find a delicate balance in its monetary policy.
COVID-19 triggered global supply chain disruptions on a massive scale. The blow was massive and the road to recovery is long. In India, according to the latest OBICUS survey from the Reserve Bank of India (RBI), manufacturing capacity utilisation fell to 60 percent in the first quarter of 2021 from 69.4 percent in the previous quarter.
All economies around the world infused a huge stimulus to keep aggregate demand afloat. This has led to the looming risk of stagflation in countries like the U.S. The government made huge cash transfers multiple times to protect livelihoods.
An important thing to note here is that supply chains were already in distress due to the pandemic. Added to that was the higher demand driven by the stimulus, leading to even higher inflation. Imagine a scenario where there is virtually no output being produced. People are then happy to sit at home and consume goods, leading to a labour shortage in countries like the United States. According to the Bureau of Labour Statistics, there was a spike in spending on consumer durable goods in the U.S. during the pandemic, largely due to the higher disposable incomes arising from the fiscal stimulus provided by the government.
There is a broader question for the Indian policy community to grapple with: Is there scope for emerging economies like India to leverage this development to enrich their own growth story? If so, how?
Consider this: The U.S. is the second-largest manufacturer in the world. U.S. manufactured products are largely consumed domestically and it is heavily dependent on other countries for imports. High tariffs owing to U.S.-China tensions imply that the U.S. will increase its dependence on imports from other countries.
Chinese imports to the U.S. were down dramatically, even before the pandemic hit. In 2019, imports from China fell by $87.3 billion year-on-year – the biggest decrease in U.S. imports from any trading partner (excluding the global financial crisis). There is a growing shift out of China to other countries in Southeast Asia for products like cameras, electronics, televisions etc. This is despite the fact that most of these countries (including India) lack the basic infrastructure and technology to mass-produce like China.
That is why any effort at ‘economic decoupling’ with China would inevitably benefit emerging economies like Vietnam and can bode well for India too. India is already deemed indispensable to the U.S. by virtue of serving as a democratic counterweight to China; given India’s unique story, no other country can take this away. If India is sagacious enough to seize this particular economic moment, it can pave the path for India to play a greater role in global supply chains.
How do we achieve this? Firstly, huge investments in infrastructure, jobs and education should be the underlying goal of all policy decisions. Unfortunately, this doesn’t seem to be happening. The unemployment rate in India remained at 7 percent or more throughout October, November and December 2021, as per the Centre for Monitoring Indian Economy (CMIE).
Meanwhile, employment in agriculture grew, which is not a good sign since agriculture is considered a part of the less productive informal sector. About 93 percent of India’s labour force is still engaged in the informal sector, whose share in the economy fell from 52 percent in 2017-18 to around 20 percent in 2020. The informal sector was hit the hardest during the pandemic, worsening India’s income inequality. The formalisation of labour force is needed now more than ever. The E-Shram portal launched in August 2021 is a welcome step in this direction.
Another factor hampering India’s growth is high inflation. Wholesale price inflation soared to a record high level of 14.23 percent, while the consumer price index rose to 4.91 percent in November 2021 against October 2021. The RBI has opted for an accommodative stance by keeping key policy rates low or unchanged. However, it is highly unlikely that the RBI will be able to keep interest rates low for long because banks like the State Bank of India have already begun increasing their interest rates in line with global trends. Other banks will soon follow suit.
Conversely, this will mean that the cost of borrowing and the costs of financing government debt will also rise. India’s government debt as a percentage of GDP was significantly higher than other emerging market economies in 2020 – at 89.6 percent, as per the IMF Fiscal Monitor. Needless to say, high rates will also deter the ability of small businesses, especially in the informal sector, to repay debt.
Depreciating currency poses another impediment. The rupee slid past the 76-per-dollar mark in December 2021. This was driven by extremely high trade deficits due to a surge in imports and lower foreign institutional investments. Even though the weaker currency might benefit exporters, for growth to be broad-based, exports must be labour intensive.
All of this ultimately boils down to the government’s ability to increase employment. While the U.S. is struggling with a labour shortage which might be solved by hiking the interest rates, India’s unemployment woes will be exacerbated by the hike. The labour shortage in the U.S. is caused by the fact that labour demand exceeds labour supply. An increase in interest rates will increase borrowing costs. This will inhibit the expansion of businesses and lead to lesser hiring, thereby balancing the labour supply-demand problem. On the other hand, unemployment in India can potentially worsen because costlier loans will prevent businesses from borrowing, and eventually, hiring might go down even more.
The critical question that the RBI needs to solve for now is how to counterbalance the impending inflationary pressures with growth prospects. Achieving efficiency in manufacturing should definitely be a priority, but it will take time. To prevent the situation from very quickly spiralling into an excessively leveraged private sector (like during the 2008-09 financial crisis), policies must promote actual inclusive growth.
The task of reviving growth is cut out for India and will require a careful balance of monetary and fiscal policies. Whether or not India seizes this interregnum to polish its growth story will have significant implications in the longer run.