Thursday 28 February 2008

India Must Ease Foreign Investor Rules to Spur Growth

India must ease foreign investment rules in retail, sell state-run companies and improve the nation's roads and power supply to accelerate growth, a finance ministry report recommended before tomorrow's budget statement.

``An appreciation of the rupee, a slowdown in industry and infrastructure constraints remained of concern,'' the annual Economic Survey for 2007-08 prepared by officials advising Finance Minister Palaniappan Chidambaram said. ``Raising growth to double digits will therefore require additional reforms.''

Prime Minister Manmohan Singh has faced resistance from his communist allies to allow greater overseas investment in retail and insurance and sell state assets. India's economic growth may slow this year for the first time since 2005 because of weaker local demand and exports after the central bank raised interest rates to control inflation and the currency gained.

``There is a risk of growth slowing and that makes reforms critical,'' said Ramya Suryanarayanan, an economist at DBS Bank Ltd. in Singapore. ``India is in a phase where it needs to increase the speed of reforms.''

Easing restrictions on foreign investment since 1991 has helped per capita income growth in India double to 7.2 percent a year since 2003 as the economy's annual expansion averaged 8.7 percent, the quickest in the nation's history.

Accelerating economic growth will double per capita incomes in a decade and further reduce poverty, today's report said. The World Bank estimates 52 percent of India's 1.1 billion people live on about $2 a day.

``Growth is of interest not for its own sake but for the improvement in public welfare it brings about,'' the report said.

India's $906 billion economy, Asia's third-largest, may expand 8.7 percent in the year ending March 31, from 9.6 percent in the previous year, according to a statistics department forecast. Singh's government is aiming for growth of as much as 10 percent by 2012.

Tax Cuts

The benchmark Sensitive index fell 0.3 percent to 17779.65 at 1 p.m. on the Bombay Stock Exchange, while the yield on the benchmark nine-year bonds dropped 1 basis point to 7.59 percent.

``It will be my priority to continue to provide a conducive investment climate and manage the macro economy to facilitate non-inflationary growth,'' Chidambaram told reporters in New Delhi after tabling the report in parliament. ``If you wish me to sum up in one phrase the outlook for 2008-9, I would say optimism but with caution are the watchwords.''

Economists expect Chidambaram, who will unveil the budget for the financial year starting April 1 at 11 a.m. in New Delhi tomorrow, to reduce corporate, income and excise tax rates to revive consumer demand and spur growth.

Chidambaram may remove levies amounting to 3.9 percent imposed in addition to the company tax rate, effectively reducing corporate tax liability to 30 percent, Goldman Sachs Group Inc. economist Tushar Poddar said.

Excise Duties

JPMorgan Chase & Co. senior economist Rajeev Malik expects a cut in excise duties on consumer goods, such as two-wheelers, besides an increase in the income tax exemption limit to 125,000 rupees ($3,132) from 110,000 rupees in a nation where only 32 million of the population of 1.1 billion pay taxes.

While today's finance ministry report did not comment on reductions in tax rates, it listed policy reform options before the government to speed economic expansion.

The report, authored by Arvind Virmani, chief economic advisor to Chidambaram, said the government must allow a share of foreign equity in all retail trade. India, which has permitted overseas investment up to 51 percent in single-brand retail outlets, must raise the limit to 100 percent, it said.

The report also suggested the foreign investment ceiling in insurance be increased to 49 percent from 26 percent and allow private companies in coal mining.

It also called on Singh's government to list all unlisted state-run companies by selling a minimum 10 percent equity in them to the public.

Ports, Roads

Congested ports and roads and ageing power plants in India, where most utilities were built in the first two decades after the country's independence in 1947, add to the cost of operations for companies and shave 2 percentage points from the nation's growth, the finance ministry estimates.

``Despite efforts to accelerate the pace of infrastructure development the demand for infrastructure services has grown faster than the supply so that the constraints have become more binding,'' today's report said. ``There is therefore heightened urgency to augment and upgrade infrastructure.''

Still, for the moment, slower economic growth may have a ``temporary dampening effect on capital flows'' that have pushed the rupee up by 11.3 percent in the past year, hurting exports. Capital inflows surged as overseas investors bought more stocks to profit from India's record expansion.

Capital Flows

``Any reduction in excess capital flows from the high levels in 2007 may affect the equity markets in the short term, but will make the task of monetary management easier,'' the report said.

Over the past two years, Reserve Bank of India Governor Yaga Venugopal Reddy has battled overseas capital flows, which increase money supply and stoke inflation, currently at a six- month high of 4.35 percent.

Reddy has raised interest rates nine times since October 2004 and ordered commercial banks to place more deposits with it five times since December 2006 to prevent excess cash in the economy from stoking inflation.

``Overall inflation is likely to remain moderate in the coming months, as the policy measures taken during the course of the year work their way through the system,'' the report said.