Bane of twin deficits

Every month, the announcement of the RBI regarding the declaration of interest rates has become more or less predictable.

Our economy has been going through rough weather in the last few years. The ‘common man’ who had been bearing the brunt of rising prices, was hopeful of growth due to governmental assurances; that it would be possible to cope up with high prices with increasing incomes. During the Eleventh Five Year Plan, the average rate of the economic growth was 8 per cent. During this Plan, the average inflation rate remained around 7 per cent. However, during the last year of the Eleventh Plan, the rate of increase in GDP remained around 6.5 per cent but the rate of inflation had reached nearly 8 per cent.

In spite of the repetitive assurances of the government, the rate of inflation is not decreasing. Initially, the increase in prices was mainly due to the increasing prices of food items; but now due to rising prices of industrial products in the recent times, the problem of inflation has been made even more acute and complicated.

In addition to this, the industrial sector is also going through a difficult phase of sluggishness. In 2011-12, the rate of industrial production nosedived to 2.8 per cent and there is hardly any possibility of improvement in industrial production and in the last two quarters, i.e.., from March to September, growth in industrial production failed to improve. However, a marginal increase in agricultural production was experienced last year yet it could not make any dent on food inflation.

The fall in the production is not the only reason behind price rise. The increasing expenditures of government and consequent increase in fiscal deficit, is also responsible for price rise. When this deficit is covered by government borrowing, it burdens the government with interest liabilities. Consequently, this fiscal deficit keeps increasing in the subsequent years. When the government borrows from the Reserve Bank, to fill this deficit, this leads to expansion of money supply and the obvious result is acceleration in the rate of inflation. We find in the last few years that supply of money has been increasing at the rate of more than 20 per cent.

The second reason behind price rise is the increase in the prices of imported goods. The prices of imported goods, especially those of petroleum products, are increasing because the prices of crude oil have been increasing in the international market. However, in the last one year devaluation of rupee has also been responsible for price rise. The value of Indian rupee has been going down, as the nation has been going through worst ever payment crisis, due high Balance of Trade deficit and Balance of Payment deficit. In 2010-11, the trade deficit was US$ 130 billion, which increased to 190 million dollars in 2011-12. The pressure on rupee is mounting constantly leading to weakening of the rupee and is making the imports even more expensive for India.

Golden period

During the governance of NDA, the rate of GDP growth accelerated continuously. After NDA taking over the reign of power in 1999, the average rate of GDP growth remained at 6.8 per cent. On the other hand, the rate of inflation also remained around 4 per cent. This period may be called a ‘golden period’ from the point of view of balance between growth and inflation and the resulting lower rates of interest regime, which gave impetus to economic growth. 

Every month, the announcement of the Reserve Bank of India regarding the declaration of the interest rates has become more or less predictable. The Reserve Bank, in the last two years, attempted to arrest inflation by increasing the interest rate 13 times consecutively, but all in vain.

It is clear that Fiscal Deficit and Balance of Payment Deficit are the two deficits, which are becoming problematic for our economy, as these are fuelling inflation. The resulting increasing rate of inflation is becoming a hindrance in the path of economic growth. Economic reforms instead of improving the condition, has rather worsened the same. Our government, ignoring the real condition, is taking further its agenda of economic reforms.

The government is of the opinion that bringing Foreign Direct Investment in different sectors of the economy would make our economy better. However, the fact is that government needs to control these deficits for the betterment of the country. Fiscal Deficit occurs when the expenditure of the government exceeds its current income. No doubt, governments across the world make deficit budgets.

Nevertheless, this deficit needs to remain in limits. In 2003, the government passed FRBM Act in the Parliament and pledged to keep fiscal deficit within the limit of 2.5 per cent of the GDP. However, from that year to the current year, Fiscal Deficit has always remained above 2.5 per cent of GDP. Last year, it increased to 5.9 percent and in the current year, this is expected to rise further.

In spite of software exports and a huge amount of remittances from non-resident Indians, rupee is still weak due to international payment crisis. It is important to take necessary steps to control Balance of Payment deficit. To bring the economy back on the track, it is important for the government to take appropriate steps to control this Twin Deficits, rather than singing to the tunes of FDI.

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