• Wednesday, May 27, 2020
  • Last Update : 03:41 pm

How severe is stagflation in India?

  • Published at 10:00 pm February 4th, 2020
Biz-op-ed

What are the ramifications for Bangladesh?

According to Investopedia, stagflation is a condition of slow economic growth or stagnation and higher unemployment, accompanied by inflation. It can also be defined as inflation and a decline in GDP.

The economy of India stands as the world’s sixth and Asia’s third largest. Outperforming China, it was called the fastest growing economy on the planet for the upcoming decade according to Business Insider.

But, the other of side of the coin tells a different story. Three years ago, it was enjoying about 9% growth. Now the rate has dropped to just half of that. At the end of 2018, it was still the world's fastest-growing economy. But since then, China has taken the title back.

A country’s economic health is predominantly determined by its GDP and growth rates. Any decrease in GDP for two consecutive quarters ie six months is termed as a recession. Indeed, output has been declining for five consecutive quarters. Unfortunately, within just one and half a years, it experienced a negative growth of 3.5%, slumping from 8% to 4.5% in Q1 of 2018-19 (April-June) -- the slowest in six years. The previous record was 4.3% in the last quarter of 2012-13.

Retail inflation was lifted to 5.54% in November compared to 4.62% in October. Unemployment rate in October climbed to 8.5%, breaking the last three years’ record. The situation even worsened when September’s infrastructure output shrank by 5.2%. As fewer outputs yielded a smaller profit, manufacturers cut down demand for production which resulted in higher joblessness.

As contraction of GDP is associated with a price hike and higher unemployment, economists remarked that the country entered into the stagflationary state. Major industries -- agriculture, mining, and manufacturing -- have been struck. The number of unsold houses in real estate increased. Many factories shut down and companies like Unilever reportedly slashed prices due to lower demands.

But what accounts for this dampening? What events triggered this negative growth spiral?

Truly, the government’s massive intervention on the central bank’s role and “demonetization policy” are deemed predominantly liable. Marking the national election of 2019, the government was frequently leaning on RBI (Reserve Bank of India) to relax the lending criteria and misuse excess reserves to boost the economy. 

Such NPLs (non-performing loan) brought shortage in loanable funds, reflecting a cut-down in private consumption, investment, and savings. Ultimately, aggregate demand slumped with a decrease in aggregate output.

In late October 2019, Deputy Governor Viral Acharya disclosed the issue before the media and warned the government, which ignited a dispute with the central bank and Modi’s government. In December, Governor Urjit Patel resigned abruptly. Following his resignation, the rupee depreciated and fell again on news of appointing a new governor.

In reality, for a well-functioning economy, the collaboration between government and the central bank is essential.

Economists are also blaming the demonetization policy for stagflation. It took the highest value -- 500 and 1,000 -- rupee banknotes out of circulation to close down the black economy, ie, smuggling, corruption, and hideaways of untaxed transactions.

The decision created acute cash shortages all over India for an initial few months and made the manufacturing and construction sectors slack. Manufacturing experienced stagnation (zero growth) and construction industry shrunk by 3.7%. 

Indian Economist Gurchuran Das said: “Demonetization was a big mistake. What this has done is put us back about six months. We should have been inching towards 8% annual growth, but have ended up around 7.1%. Already, we were having problems creating jobs, but demonetization has exacerbated it by a couple of quarters.”

Over the years, while India’s looming economy has been the “talk of conferences,” Bangladesh’s booming economy is also a leading one. Standard Chartered India asserts, if India and Bangladesh manage to retain economic conditions as they are now, the latter’s PPI (Per Capita Income) will amount to $5,734.6 -- exceeding India’s by 2030.

It’s remarkable that bilateral trade between Bangladesh and India stood at $9.5 billion in 2017-18 and in FY2019 it increased to $9.85 billion. Posting 85% contribution to the nation’s exports, the RMG sector is a major driver of our economic growth. 

But its raw materials -- cotton, yarn, fabrics -- are largely imported from India. Hence, imports are strategically important for the industry to thrive and persist.

On the other hand, it can have multiple effects on bilateral trade. Aggregate output and aggregate income are diminishing there. So, Bangladesh has been unable to clear its market demands with declining imports. With this downturn, our economy is likely to face trade restrictions by India as it tries to keep imports lower and exports higher to maintain trade balance, thereby protecting aggregate demand from further deterioration. 

Furthermore, many Indian items will not be moving out of inventories, owing to stagflation. To clear them, there are higher possibilities that Indian products will be “dumped” in our local markets, making their net exports higher. Then, it will lead our trade deficit up with India as imports rise.

Indeed, the effects of stagflation range widely. It may avert Bangladesh from the full-fledged benefit of regional trade, faced by market dumping and imposing trade restrictions. 

In order to attain higher economic benefits, policy-makers must leverage the urgency by focusing on holistic approaches and devising appropriate strategies to protect the economy.

Ahmad Bhuiyan is a student of Economics, University of Dhaka.

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