A Review of the Approach to the 12th Five Year Plan
India’s 12th 5 year Plan is supposed to kick in this year, and aims for a growth of 9 to 9.5% per annum. Compared to a rate of just over 8% for the 11th plan, which has just ended, this seems somewhat ambitious. With the markets on holiday, I spent Dussehra examining the 12th Plan approach paper to see how realistic this 9% number is.
Aside from the heady experience of 10% growth during the global boom 5 years ago, the reason many believe we can expect high growth in India is our high rates of investment and private sector saving – respectively pegged at 36% and 34% of GDP by the Planning Commission. In projecting growth over the next 5 years, the plan requires these rates to rise further, with the investment rate for the entire 5 year period to hit 38.7%; to fund this, critically, it projects household savings rates to rise from 23 to 24%; corporate savings to go from 8.2 to 8.5%, and public savings to go from 2.5% to 3.7%. Also, it requires the capital account balance to go from 3.8 to 5%.
The current scenario suggests that each of these targets is a stretch. Household savings rates have been down for the last couple of years, and with much money going into gold, there is also the question of how the gold in our lockers and round our necks can be channelled into the financial system. Further, the plan also hopes for a tax to GDP ratio of 13% for the period, as compared to something like 10% for the whole 11th Plan. The burden of extra taxes is bound to lower the potential for the private sector – whether households or businesses – to save.
Meanwhile, to expect public savings to rise will require our government to forswear populism. With elections due in 2014, there seems little chance of that. And lastly, given the continued uncertainty in the global financial system, capital from abroad is likely to slow rather than grow, and expecting 5% of GDP to flow in from abroad is foolhardy.
All considered, my own sense is, the funds available for investment are going to be in the region of 5% less than the Planning Commission numbers.
The second issue in the chain of growth is how these funds convert into increased supply of goods and services. In studying this link, planners look at the number of rupees of investment required to generate 1 rupee of extra output in different sectors, a number called the sectoral ICOR (Incremental Capital Output Ratio). As should be expected, huge amounts of capital are required in building infrastructure in gas, electricity and water – sectoral ICOR of 16; transport – 12; and mining and quarrying – about 7. In contrast, for construction and finance, the numbers are vastly lower, 2 and 1 respectively.
Over the last 3-4 years, we have been hitting constraints in precisely the sectors with the highest ICORs – most notably in transport and across the entire energy chain. This suggests that, if we are to achieve sustainable growth, these sectors must be built up; in the short-term, they will yield lower returns for the financial buck, and hence overall growth will be lower. Without infrastructure keeping up, the document recognises that, “There is no doubt that an effort to expand demand to push growth beyond the level consistent with the supply potential will lead to inflation”.
It is crucial to understand this last statement – inflation is too often reduced to a discussion of interest rates, and with PC back in the FM's chair, the level of 'policy' debate on this matter has hit a new low. However, price levels have a structural underpinning, in terms of the capacity to supply an economy. All the signs are that we have hit a wall here.
In consequence, my own growth projection for the next 5 years is in the 5 to 6% range. 7% will only happen if the global system reverts to the heady days of the 'Oughties - an optimism few will share, and one on which no responsible planner should base a major document. As for 9%... that's a pipe dream.