Budget 2019: Coinciding with years of policy paralysis, EPU was the highest in 2011-12. It has secularly declined from July 2012 onwards, though with irregular episodes of elevated uncertainty in between
Union Budget 2019: Economic Policy Uncertainty (EPU) - when measured using EPU index in India - has reduced significantly over the last decade. Coinciding with years of policy paralysis, EPU was the highest in 2011-12. It has secularly declined from July 2012 onwards, though with irregular episodes of elevated uncertainty in between.
EPU also correlates strongly with the macroeconomic environment, business conditions and other economic variables that affect investment. An uptick in EPU increases the systematic risk, thereby the cost of capital in the economy. As a result, higher EPU lowers investment, especially because of the irreversibility of investment.
A globally recognised attempt at quantifying economic policy uncertainty is the one by Baker et al. (2016), who developed the index for various countries including India. It is created by quantifying newspaper coverage of policy-related economic uncertainty.
According to the Economic Survey, India's index of uncertainty peaked for few months in 2011 and 2012, reflecting the policy paralysis during that period. The economy witnessed twin deficits and high inflation during the same period.
The index was also high in the second half of 2013 when 'taper tantrum' happened, leading to volatile capital flows and depreciation of rupee against US dollar. The peak post the implementation of goods and services tax (GST) was not that sharp, primarily due to the fact that discussions around GST policy had kicked off much before the law eventually got implemented in July 2017.
Economic policy uncertainty in India moved in tandem with global uncertainty until 2014. However, it started diverging since early-2015. It seemed to have completely decoupled in 2018, highlighted the Survey. In recent times, while the economic policy uncertainty has been increasing across the world, including US, UK and China; India's economic policy uncertainty has been falling. "Uncertainty seems to have stabilised at lower levels in case of India since last few years, which is noteworthy given the recent surge in global uncertainty, partly due to rising trade tensions between US and China, uncertainty about outcome of Brexit and slower world growth," added the Survey. Year 2018 saw sharp divergence in India's economic policy uncertainty index with that of global uncertainty index, which increased sharply. Global uncertainty index increased from 112 to 312 during the year, whereas that of India remained below 100.
The EPU index shows that movements in India were almost similar to that of the US until 2015; however, the two series have diverged since then. Economic policy uncertainty in India has consistently been lower than that of US since then. The divergence has increased sharply since mid-2018, probably due to rising trade tensions of US with China, the Survey said. The low economic policy uncertainty index for India in last one year points towards resilience of the economy even in times of global trade uncertainty.