Economic crisis: Why turning on the consumption tap will not be easy
Prosenjit Datta September 9, 2019
As the GDP (gross domestic product) growth slowdown begins to bite, lot of prescriptions have been suggested on how to boost consumption - and therefore get the growth going again. After all, consumption is roughly 70 per cent of the GDP. Therefore, it is perfectly logical to think that boosting consumption - which has started slowing down over the last few quarters - will help boost the GDP growth as well.
The prescriptions for boosting consumption range from reducing GST on some goods (autos, for example, because the sector accounts for almost 45 per cent of manufacturing and is one of the most visible indicators of consumption growth), reducing interest rates (real interest rates remain high, despite the successive rate cuts by the RBI), as well as reducing direct tax rates, which would leave more money in the hands of individuals. There are also suggestions such as higher direct income transfer to farmers, which would help pump up rural demand. Many columnists and opinion leaders are of the opinion that a combination of all these will kick start consumption growth and thus speed up economic growth.
These are all sensible suggestions, but in my opinion, getting consumption going once again will be more difficult for the government (and the RBI) than following these steps. No doubt, these are all important steps to take, but they ignore the real issue. And for that, one needs to understand what has been driving consumption for the last few years, before the sudden slowdown.
For some time now, data has been trickling in that income growth is either stagnant or sluggish. India does not have reliable statistics on income growth across groups, professions and sectors, but one can deduce it from different sources of data looking at different things. RBI studies, for example, have shown that rural wages, both agricultural as well as non-agricultural, have remained flat in real terms. Meanwhile, a recent analysis by Furquan Moharkan and Samiksha Goel of Deccan Herald using RBI data shows that personal indebtedness (or borrowings) has been growing faster than incomes. The sharp rise in household indebtedness was also the subject of the following article by my colleague Anand Adhikari @anandadhikari in the current issue of Business Today magazine: Ballooning Danger
For the past few years, there have been enough indicators that income growth is not in sync with consumption statistics. The first was statistics cropping up on rising unemployment and lack of job creation. The slow pace of new private investment, the issue of private debt, which had yet to be resolved, and consolidation in various industries as well as the rise of automation were all factors that explained in some way the lower income growth. The low inflation was also a factor. (There are enough studies showing income growth relationship to higher nominal GDP growth).
However, consumption growth did not flag even when income growth was slowing down, perhaps because of easier availability of credit from banks and NBFCs (non-banking financial companies) and the prevalence of easy EMI (equated monthly instalments) payments.
Several economists have also pointed out other factors that could have helped in the robust consumption growth outpacing real income growth in the past few years. One was the pay commission recommendations, which Central and state governments had implemented. It led to a bump in disposable income in the hand of employees. The second was the wealth effect - a matter of sentiment as stock markets were rising despite the economic slowdown for quite some time that in turn made many middle-income families with savings in mutual funds feel richer.
But, as RBI household surveys show, optimism has been slowly fading over time and consumer sentiment has dipped quite a bit. Perking it up would require far more than lower taxes and interest rates. For this sentiment to go up again, industries need to do well, and real incomes need to go up. Neither seems possible without private investment taking off once again, and creating jobs and higher income growth as we saw in the period between 2004 and 2010. In essence, consumption growth can only pick up once again once income growth happens and consumers have higher disposable income in their hands. And for that to happen, the industry needs to perform better first.