INDIAN GOVERNMENT’S

STIMULUS FOR RECOVERY

OF THE ECONOMIC
DOWNSWING
Prepared By:

Nikhil Chandra 2806

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Ravinder Goel 2806
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Saikat Roy 2807
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Tarun Agarwal 2807
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 Aditya Grover 2807
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Batch 2008-2010, Section C, NIILM-CMS, New Delhi

INDEX

S.NO. CONTENTS PAGE (S)

01. Project Abstract 3

02. The Gravity Of The Situation 4–5

03. Stimulus Package I 6 – 11

04. Shortfalls Of Stimulus Package I 12 – 15

05. Bailout Packages By The Indian Government 16 – 17

06. Current Political Situation 18

07. Demands For The Second Stimulus Plan 19 – 25

08. Stimulus Package II 26 – 30

09. Shortfalls Of Stimulus Package II 31– 32

10. Future Prospects 33 – 37

11. Ray Of Hope 38 – 39

12. Managerial Implications And Suggestions 40 – 43

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 13. Bibliography 44 – 45

PROJECT ABSTRACT

This research project was conducted on the Indian government’s stimulus packages given to
boost the economy of our country. The first stimulus was announced on 7th December 2008 and the
second stimulus on 2nd January 2009.

The focus period of study for this research project has been the period between 5th December
2008 and 5th January 2009. Data was also significant during the period of 1st October 2008 to 4th
December 2008. Overall, the data was analyzed for the Global as well as the Indian Financial Fiasco
Scenarios through the period of 28th April 2008 to 5th January 2009.

The aim of this research project was to study the global economic environment and ascertain
whether the steps taken by the Indian government to revive the economy are truly progressive or just
an eyewash.

Indian government was comparatively very late to come to terms with the global economic
meltdown as compared with other huge economies like the United States of America, China, the
European Union, the Russian Federation, South-east Asian countries, Japan and Korea. This move to
wait and watch and then infuse liquidity into the economy has been largely disastrous for the UPA
coalition government.

The timing was especially bad considering that the general assembly elections are due in May
2009 and considering the fact that they introduced the sixth pay commission at a time when the country
was witnessing the fall of inflation. The present government was well aware of the sub-prime /
mortgage crises situation facing the western world since the year 2001.

The current stimulus measures were declared within a span of 27 days only. We will not get a
third stimulus package for this financial year and the fiscal deficit has already widened by 2 percentage
points.

This project thus, attempts to understand the chain of events leading to the announcement of the
stimulus packages, the shortfalls and criticisms of the booster shots, the future predictions made after
each stimulus push, the overall hope for the future and the implications of this governmental move
from the managerial perspective.

This project hopes to find answers to questions still perplexing to the common man, the fine
print between the lines of the government’s emergency policies, the politics of socialistic ideals and an
easy to understand managerial implication report that shall be of use to all concerned citizens of our
country.

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 THE GRAVITY OF THE SITUATION

The outflow of foreign institutional investment from the equity market since July 2008 had been more
than $12.5 billion and the rupee had fallen by 20 percent. From a high of around Rs 39 to a dollar in
January 2008 the rupee had fallen to around Rs. 48 a dollar by October 2008.

The Sensex index, which in its rise from the 4,000 range in 2002-3 to over 20,000 at the start of 2008
produced both endless ecstatic drivel in the business press and a flood of FII, had tumbled down to the
9,000 range by October 2008..

The Reserve Bank of India sold $20.6 billion in October, according to the figures published in the
December bulletin of the bank.

It was during October that the local currency faced severe pressure. The currency declined from about
47 to the dollar at the beginning of the month to a little over 50 at the end of October. The decline in
forex reserves during that period had prompted speculation that the RBI was ‘intervening’ massively to
prop up the local currency.

Since mid-October, the central bank has lowered its key lending rate by 250 basis points to 6.5 percent
to shield the economy from the spillover of the global credit crisis.

It has also aggressively slashed banks' reserve requirements to shore up growth, which many expect to
slow to 7 percent in the fiscal year which ends in March from 9 percent in 2007/08.

The super spike in oil prices on the one hand and flight of capital on the other have been the two
factors that saw the RBI furiously sell off dollars to prop up the rupee, according to Dr D.K. Joshi,
Director and Principal Economist at rating agency Crisil.

The RBI has so far in this fiscal sold close to $34 billion while purchasing $5.68 billion. The net sale of
$28.3 billion would mean that an equivalent amount of Rs 1,20,000 crore has been removed from the

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banking system – causing some liquidity crunch before the announcement of recent liquidity infusing
measures.

The RBI buys dollars in the market when there is a heavy inflow of dollars – as was the case in the last
few years. This is done to prevent the rupee from appreciating beyond the level that the RBI is
comfortable with. A considerable part of the liquidity enjoyed by commercial banks during the past
few years owed its origins to the dollar inflows that were sucked out by the RBI. By placing rupees in
their hands and once again ‘sterilising’ it by selling government paper to banks, the RBI was hoping to
keep inflation under control.
During 2006-07 the RBI did not sell any dollars in the market. In 2007-08 also the RBI remained a
purchaser of dollars – except in March, when it sold about $1.4 billion. During these two years alone,
the RBI had purchased about $100 billion – which got added to the country’s forex reserves.

The RBI was also very active in the forward market for dollar purchase from October 2007 when the
inflows were high. Its outstanding net purchase of dollars in the forward market was at a high of $17
billion in April 2008 after which it has gradually reduced the net position to a mere $90 million in
October 2008.

Since June this year, the RBI has had to intervene actively and sell more dollars than what it purchased
during each month. There was a brief reprieve in August but things have taken a turn for the worse
after that.

The capital goods sector, which supplies machines to both sluggish manufacturing and laggard
infrastructure sectors, suffered a big jolt in October’08, with a year-on-year growth falling steeply to
3.1 percent, plunging from 20.9 percent in the same month a year ago.

Infrastructure industries, which club power, cement, coal, steel crude oil and petroleum in government
classifications, grew by 3.4 percent year-on-year in October’08, down from 4.6 percent a year ago.

With growth in these sectors sluggish, the companies that supply machines and equipment for their
projects also apparently suffered its consequences.

The liquidity problem in the month of October’08 resulted in banks slowing loans which impacted
several infrastructure projects.

The fall in the industrial output for the first time in 15 years is expected to result in companies
reporting lower earnings in the third quarter ending December 31, 2008 as well as the following
quarter ending March 31, 2009.

The core industry sectors including manufacturing, infrastructure and auto are expected to continue to
register a decline in growth in the coming two quarters.

The contraction in consumer goods – both durables and non-durables - suggested that the 7 percent
growth seen in the previous years would not be enough to sustain itself in 2008-09 and 2009-10.

High interest rates were a major cause of worry for the auto and realty sectors.

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The country’s aviation industry clearly showed a downward spiral on Friday with passenger traffic data
for November showing a 4.5 percent dip from October, signaling a somber mood of demand
contraction in a slowdown.

According to the data released by the Ministry of Civil Aviation, for November’08, domestic airlines
carried 30.01 lakh passengers compared with 31.33 lakh passengers in October’08.

The downslide in the industry was linked to high fares which in turn were linked to fare revisions
caused by high fuel prices of aviation turbine fuel.

STIMULUS PACKAGE I
1. Plan Expenditure:

In order to provide a contra-cyclical stimulus via plan expenditure, the Government has decided to seek
authorisation for additional plan expenditure of upto Rs 20,000 crore in the current year. In addition,
steps are being taken to ensure full utilisation of funds already provided, so that the pace of expenditure
is maintained. The total spending programme in the balance four months of the current fiscal year,
taking plan and non-plan expenditure together is expected to be Rs.300,000 crore.

The economy will continue to need stimulus in 2009-2010 also and this can be achieved by ensuring a
substantial increase in plan expenditure as part of the budget for next year.

2. Reduction in CENVAT:

As an immediate measure to encourage additional spending, an across-the-board cut of 4% in the

CENVAT rate will be effected for the balance part of the current financial year on all products other
than petroleum and those where the current rate is less than 4%. This shall will bring down prices of
cars, cement, textiles and other goods.

The Central Value Added Tax (CENVAT) on non-petroleum products would down to ten, eight and
four per cent for different categories.

3. Measures to Support Exports

i) Pre and post-shipment export credit for labour intensive exports, i.e., textiles (including handlooms,
carpets and handicrafts), leather, gems & jewellery, marine products and SME sector is being made
more attractive by providing an interest subvention of 2 percent upto 31/3/2009 subject to minimum
rate of interest of 7 percent per annum.

ii) Additional funds of Rs.1100 crore will be provided to ensure full refund of Terminal Excise
duty/CST.

iii) An additional allocation for export incentive schemes of Rs.350 crore will be made.

iv) Government back-up guarantee will be made available to ECGC to the extent of Rs.350 crore to
enable it to provide guarantees for exports to difficult markets/products.

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v) Exporters will be allowed refund of service tax on foreign agent commissions of upto 10 percent of
FOB value of exports. They will also be allowed refund of service tax on output services while availing
of benefits under Duty Drawback Scheme

4. Housing

Housing is a potentially very important source of employment and demand for critical sectors and there
is a large unmet need for housing in the country, especially for middle and low income groups. The
Reserve Bank has announced that it will shortly put in place a refinance facility of Rs.4000 crore for
the National Housing Bank. In addition, one of the areas where plan expenditure can be increased
relatively easily is the Indira Awas Yojana. As a further measure of support for this sector public sector
banks will shortly announce a package for borrowers of home loans in two categories: (1) upto Rs.5
lakhs and (2) Rs 5 lakh-Rs 20 lakh. This sector will be kept under a close watch and additional
measures would be taken as necessary to promote an accelerated growth trajectory.

5. MSME Sector

The Government attaches the highest priority to supporting the medium, small and micro enterprises
(MSMEs) sector which is critical for employment generation. To facilitate the flow of credit to
MSMEs, RBI has announced a refinance facility of Rs.7000 crore for SIDBI which will be available to
support incremental lending, either directly to MSMEs or indirectly via banks, NBFCs and SFCs. In
addition, the following steps are being taken.

(a) To boost collateral free lending, the current guarantee cover under Credit Guarantee Scheme for
Micro and Small enterprises on loans will be extended from Rs.50 lakh to Rs.1 crore with guarantee
cover of 50 percent.

(b) The lock in period for loans covered under the existing credit guarantee scheme will be reduced
from 24 to 18 months, to encourage banks to cover more loans under the guarantee scheme.

(c) Government will issue an advisory to Central Public Sector Enterprises and request State Public
Sector Enterprises to ensure prompt payment of bills of MSMEs. Easing of credit conditions generally
should help PSUs to make such payments on schedule.

6. Textiles

(a) An additional allocation of Rs.1400 crore will be made to clear the entire backlog in TUF Scheme.

(b) All items of handicrafts will be included under 'Vishesh Krishi & Gram Udyog Yojana'.

7. Infrastructure Financing

A large number of infrastructure projects are now being cleared for implementation in the Public
Private Partnership mode. These projects may experience difficulty in reaching financial closure given
the current uncertainties in the financial world.
In order to support financing of such projects, Government has decided to authorize the India
Infrastructure Finance Company Limited (IIFCL) to raise Rs.10,000 crore through tax-free bonds by
31/3/2009.

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These funds will be used by IIFCL to refinance bank lending of longer maturity to eligible
infrastructure projects, particularly in highways and port sectors. In this way it is expected that IIFCL
resources used for refinance can leverage bank financing of double the amount.

Depending on need, IIFCL will be permitted to raise further resources by issue of such bonds. In
particular, these initiatives will support a PPP programme of Rs.100,000 crore in the highways sector.

8. Others

(a) Government departments will be allowed to take up replacement of government vehicles within the
allowed budget, in relaxation of extant economy instructions.

(b) Import Duty on Naphtha for use in the power sector will be eliminated.

(c) Export duty on iron ore fines will be eliminated and on lumps will be reduced from 15% to 5%.

(d) A four per cent cut in ad-valorem duty.

9. Aviation

(a) The government will impress upon state governments to grant “declared goods” status to aviation
turbine fuel (ATF) or jet fuel to help airlines tide over the high cost of fuel. India is one of the most
expensive places to tank up for airlines with a diverse taxation structure across states that levy taxes
ranging from 4% to 30% on aviation fuel.

(b) Air India to slash fares by Rs 400.

The Government is keeping a close watch on the evolving economic situation and will not hesitate to
take any additional steps that may be needed to counter recessionary trends and maintain the pace of
economic activity.

As part of steps to create demand in the economy that is expected to grow by over 7 per cent the total
spending programme in the balance four months of the current fiscal year i.e. December’08 to
March’09, taking plan and non-plan expenditure together is expected to be Rs 300,000 crore (Rs 3,000
billion) apart from the Rs 35,000 crores fiscal package of Stimulus I that has been reviled by the
government.

10. Fertilizers

Government issues bonds worth Rs 4,000 crore as fertilizer subsidy

The government today issued bonds worth Rs 4,000 crore to 16 fertiliser companies to compensate
them for selling the key agricultural input to farmers at low prices.

The 14-year special bonds carry a coupon rate of 6.20 per cent.

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Of the bonds, the largest share was issued to Indian Farmers Fertilizer Co-operative, which got more
than half of the worth of total bonds. The cooperative got bonds worth Rs 2,106 crore.

Other firms which got bonds include Chambal Fertilizers & Chemicals, Tata Chemicals, Gujarat State
Ferilizers and Chemicals, Rashtriya Chemials and Fertilisers, Indian Potash and Paradeep Phosphates.

Earlier this month, the Centre got parliamentary approval for an additional subsidy of Rs 6,000 crore to
the fertiliser sector in the second supplementary demand for grants, taking the total for this purpose to
nearly Rs 89,000 crore this year.

11. Home loans

Govt may restrict home loan rates to 7-8%. The government is pushing state-owned banks to offer
interest rates on housing loans up to Rs 20 lakh (Rs 2 million) at pre-2004 levels. This would mean
consumers could get home loans at 7 to 8 per cent, 2 or 3 percentage points lower than the current
market rate of 9.5 to 10.5 per cent.

Public sector bankers indicated that they have received signals to lower pricing of home loans up to Rs
20 lakh. Finance secretary Arun Ramanathan is likely to meet some public sector bank chiefs for an
action plan. The contours of the package are likely to be ready early next week. The government on
Sunday had said state-owned banks would announce a package for home loans up to Rs 20 lakh.

The government may also bear the interest risk -- the movement in the market rate against a fixed rate
the lenders will charge borrowers of such loans.

Home loans up to Rs 500,000 may attract interest of around 7 per cent and those above Rs 500,000 and
up to Rs 20 lakh around 8 per cent, sources said. With interest subvention, the actual interest realisation
for banks may be around 10 per cent.

State-owned banks have reduced interest rates from as high as 11 to 12 per cent to 9.5 to 10 per cent.
Deposit rates may fall further after RBI's recent rate cuts. The average cost of funds for banks is 6 per
cent now.

Regarding reduction in lending rates, some private banks have announced a cut in home loans. Other
banks are taking a fresh look on their lending rates for various segments and are expected to come out
with a response sooner than later.

12. Consumer Durables

Consumer durables may be cheaper. High-end consumer durables such as plasma TVs, washing
machines and refrigerators may get cheaper by up to Rs 3,600 as manufacturers work out ways to pass
on the benefit of the four per cent cenvat cut to consumers.

"Consumer durables maker will certainly pass on the excise tax benefits to the customer and I foresee
around 3-5 per cent reduction in prices across the segment," said Consumer Electronic Appliances
Manufacturers Association Secretary General Suresh Khanna.

Following the government notification, consumer durables firms will now have to pay anwyhere
between 4-10 per cent Cenvat (as opposed to the earlier 8-14 per cent). The countervailing duty
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(CVD), too, gets reduced proportionately to the lower excise duty rates, said Shailesh Seth, indirect tax
advoctate, adding that "the rates have been reduced not only for finished goods but on inputs like steel
too".

LG Electronics India Head Amitabh Tiwari said: "Our high-end products such as LCD and plasma
TVs, refrigerator and washing machines will see a reduction in prices by around 1.6 per cent."

However, V Ramachandran, Director, Sales & Marketing, LGEIL, said the company was "assessing
the price reductions, category by category but has not taken a decision on the price cuts". He added:
"There has been a steady rise in input costs and that could be a reason for manufacturers to hold the
prices for now."

LG is expected to announce its final decision in 2-3 days. Most of LG's products are manufactured in
units located in excise free zones, so there would be almost negligible impact of reduction in excise
duty.

Other players in the segment such as Western Electronics, too, hinted at price reductions. "We will
definitely look for an opportunity where we can pass on the benefit to consumers. We are working on it
and consider it to be positive," Western Appliances Sunil Shetty said.

"We are working out a way to pass on the benefits to the consumer as fast as possible. We are pretty
sure that these initiatives will stimulate demand," said Haier Appliances India Director Sales and
Marketing R T Rajan.

Samsung, however, is undecided. R Zutshi, Deputy MD, Samsung India, told Business Standard, that
"the move comes as a relief for the industry which was facing an input price rise in the first half of the
year and later the rupee depreciation had hit the industry hard too. We are working out the full impact
of the reduction and would be taking a decision soon on prices. How much could be pased on to the
customers is yet to be decided."

13. Banking:

The increased financial support will also be given to cooperative banks and regional rural banks.

The government is also expected to offer cheap loans to labour-intensive export sectors including
textiles, leather, handicrafts, marine products and gems and jewellery.

The government has also increased the interest assistance given to the public banks by 1% for short-
term crop loan up to Rs 30,000. The move is taken to push banks to enhance their lending to farmers.
"We have now been informed by the Union Ministry of Finance that the government has approved
interest subvention of 3 percent, instead of 2 percent, for the year 2008-09," stated RBI in a notice.

However the banks will lend to the farmers at the earlier level of 7% per annum. So it means that the
farmer will continue to get the loan at the earlier rate of 7% but the government will give the bank a
3% interest on loans extended in order to soak up the extra cost of funds.

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14. Impact on the stock markets:

The RBI’s rate cut and the government’s stimulus package did have a positive impact on the stock
markets. Foloowing the news of the stimulus package the benchmark index, the Sensex, had surged
nearly 724 points and registered a growth of about 8 per cent over the previous week’s close. Whether
this rally will sustain over the coming weeks remains to be seen, but the measures did manage to lift
the mood temporarily.

15. The RBI in action:

Moves taken by both RBI and Government have been initiated to gear up the economy from a painful
slowdown

RBI is likely to declare yet another cut in its key policy rates such as repo rate and CRR. The regulator
is also expected to cut the reverse repo rate as pushed by the Planning Commission Deputy Chairman,
Montek Singh Ahluwalia. The reverse repo window sucks excess liquidity from the banks. Currently it
stands at 6% and it is felt that a reduction in the same is necessary to discourage banks to park their
excess funds with RBI.

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The fiscal measures by government complement the steps taken by RBI that aim towards a south
movement of lending rates and enhanced credit to the SME and real estate sector.

The monetary measures are "supplemented by fiscal measures designed to stimulate the economy. In
recognition of the need for a fiscal stimulus the government had consciously allowed the fiscal deficit
to expand beyond the originally targeted level," added the statement.

SHORTFALLS OF STIMULUS PACKAGE I

ACROSS the world, countercyclical fiscal policy is back in fashion. It has been only too evident that
monetary and financial measures to save banks and other financial institutions, however necessary they
may be, are simply not enough to prevent real economies from sliding into recession. Already the
largest economic groupings – the United States and the Eurozone – have officially declared that they
have been in recession for some time now. The growth slowdown has affected other countries quite
sharply, including those such as China that were earlier hoped to have “decoupled” from the West. The
slowing down or even decline of economic activity has had an immediate impact on employment, with
significant job losses being reported from almost all economies.

So the case for aggressive fiscal expansion for economic recovery has not been stronger for quite some
time. Some governments are responding. President-elect Barack Obama has promised a huge fiscal
package in the U.S.; China has announced a large fiscal package driven by substantial increases in
public expenditure, which is already being implemented.

On December 7, the Central government did finally announce a fiscal package to complement the
previous monetary policy measures. Given the context, the need is for bold measures, which could also
then be used to redirect economic strategy in a way that would benefit ordinary people. But the
package that has been announced fulfils neither of these goals.

Indeed, given all of this, it has been a bit of a mystery why the Central government has taken so long to
announce a much-needed and much-awaited fiscal stimulus. Until a few weeks ago, the Prime Minister
and the Finance Minister even tried to avoid the issue by declaring that they had anticipated the global
downturn by including a large fiscal deficit in the annual Budget, when in fact that was no more than
the result of some pre-election sops offered out of political exigency. All this led some people to
suspect that no new fiscal package would be forthcoming, despite the obvious need for it. While this is
patently absurd, from both economic and political perspectives, it is not impossible given the
absurdities that the straitjacket of neoliberal economic thinking can generate.

The case for a strong fiscal stimulus in India has also been evident for some months now, as the
adverse impact of the global economic slowdown combines with domestic forces that had already
depressed mass demand. It is estimated that more than a million jobs have already been lost in the
small exporting units and in the construction sector, and other non-agricultural employment is not
growing. Meanwhile, the agrarian crisis is worsening as cultivators are hit by the fall in the prices of
cash crops.

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When the economic conditions clearly call for bold and definitive measures and when the political
situation is also one in which aggressive state action should be expected, why do we get such a half-
hearted and unconvincing package? Is it that the Central government itself is not fully convinced of the
need for clear Keynesian measures?

Or has it fooled itself into believing its own hype – that the economic crisis is not so severe and will
not deteriorate further? Whatever be the reasons, it is clear that this inadequate package is not enough
to prevent the downturn and cause further unnecessary suffering to millions of Indians.

1. Credit crunch:

The impact of the current economic crisis has been most evident in the financial sector and, thus far,
that is what the government has focused on. Attempts to ease the credit crunch included measures to
infuse more liquidity into the system by reducing the Cash Reserve Ratio and the Statutory Liquidity
Ratio. The Reserve Bank of India also sought to reduce interest rates by bringing down repo and
reverse repo rates, and to provide some relief to non-bank financial institutions, particularly insurance
companies. These confidence-building measures were necessary not only because of the ripple effects
of the global financial crisis, but also because the Indian banking system had several of the fragilities
that undermined the U.S. banks, albeit in a less severe form.

2. Liquidity trap

In a situation of liquidity trap, monetary measures prove to be lacking, and until now this is what has
happened in the Indian economy as well. Banks are willing to lend only to the most credit-worthy
potential borrowers, but such borrowers are unwilling to borrow because of the prevailing uncertainties
and the expectation of a slowdown. Meanwhile, all other enterprises, even those that desperately
require working capital to stay afloat, find it increasingly difficult to access bank credit even as they
face more stringent demand conditions.

In such a situation, reducing interest rates does not solve the basic problem of tightened credit
provision, although it may marginally reduce costs for those who are able to access bank credit. In any
case, some of the measures seemed to be more designed to drive up the stock market than to revive the
real economy, underlining the government’s unfortunate obsession with stock market indicators
relative to real economic problems.

Indian banks needed liquidity inflow to jumpstart the economy. That is what we were made to believe.
The Reserve Bank of India moved in swiftly. Through a series of measures, including a cut in repo rate,
opening a special lending facility for the banks, and cutting cash reserve ratio, RBI has pumped
Rs.300,000 crores into the banking system since mid-September. And look what happened. The banks
are putting the money back with the RBI as safe deposits. Between 1 and 8 December - in just eight
days alone - banks have deposited Rs.327,000 crores back with RBI at a nominal interest of 6 per cent,
which was further lowered to 5 per cent.

3. Promised fiscal expansion:

The promised fiscal expansion is a small one – only up to Rs.20,000 crore of direct additional spending
through the Planning Commission in unspecified areas. This is less than 4 per cent of the government’s
projected expenditure for the year, and only around 0.5 per cent of gross domestic product (GDP).
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Such a tiny fiscal input is simply too small to be really countercyclical. It is not even enough to change
the expectations of private agents to get them to start investing and spending more.

4. CENVAT:

The direct spending is combined with a tax cut measure on domestic duties – the ad valorem Cenvat
(Central value added tax) rate is to be reduced by 4 percentage points. This will have an impact in
terms of supporting economic activity only if producers respond by cutting prices and such price cuts
generate demand responses. But neither is inevitable. For example, the recent cut in the price of
aviation fuel was not passed on to consumers by the airline companies, and even now only one carrier
has promised to reduce the aviation fuel surcharge. So that particular measure simply became an
additional subsidy to shore up profits of airline companies.

It is not clear whether the Cenvat reduction will meet the same fate, reducing government revenues
without generating more economic activity. But already some companies have declared that they
cannot be expected to pass on these tax cuts when their own accounts are still in the red. It is well
known that in times of economic uncertainty, tax cuts are much less effective in stimulating activity
than direct government expenditure.

5. Housing:

The measures directed towards housing, combined with the encouragement of retail credit expansion
by the banks to keep middle-class consumption high, suggest that the government has not really learnt
any lessons from the current crisis. It is important to expand the Indira Awas Yojana that provides
housing for those below the poverty line, but the money for it is supposed to come out of the
Rs.20,000-crore package rather than being additional to it. Meanwhile, once again the financial system
is being pushed towards supplying retail credit in the form of housing and personal loans in an attempt
to reply the same bubble that is now coming unstuck. This is an illogical way to proceed if the desire is
to put the economy on a sustainable growth path rather than subject to boom-and-bust episodes.

6. Infrastructure Investment:

The aim of reviving infrastructure investment has been addressed by promising to allow the public-
sector India Infrastructure Finance Company to float Rs.10,000 crore worth of tax-free bonds and
leverage the money to borrow further in order to provide finance to those private participants in the
public private partnership (PPP) projects who have developed cold feet. This may or may not work –
but in any case the effects will be felt only after some time, and certainly will not be as fast as direct
public investment would have been. This indirect route reflects the urge of the Central government to
keep such expenditure off-Budget, in a flimsy attempt to dress up its own accounts even though the
need for expansionary fiscal stance is obvious.

7. Export Sector:

The other measures are really rather modest in scope and niggardly in content. The only substantial
measure directed to highly employment-intensive units in exporting sectors such as textiles, garments
and leather is a small reduction in the interest rate on export credit. In addition, there are some small
tax concessions and a tiny (Rs.350 crore) addition to export-incentive schemes. These are hardly likely
to counteract the effect of big losses of export orders as the major markets start shrinking. What was

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required was a more serious and systematic attempt to allow these industries to keep producing at
technologically efficient levels and shift demand to other markets.

Some of the proposed measures make very little sense – for example, the elimination of export duty on
iron ore fines and reduction of export tax on iron ore. There is really no reason why India should want
to incentivise the export of iron ore rather than encourage the domestic processing of it into steel.
However, the real problem with this fiscal stimulus package is not so much what it contains but what it
leaves out. Clearly, small is not beautiful in this case, and the overall size of the package is too small to
have much an effect. Additionally, some of the most critical areas of public spending have been
neglected, especially State governments.

8. Tax Revenues:

State governments have already started feeling the resource constraint as their tax revenues are affected
by the economic downturn. They are responsible for most of the public services that directly affect the
people, such as those relating to agriculture and rural development, health, sanitation and education.
Yet there is nothing proposed to alleviate the fiscal crunch of State governments, which face a hard
budget constraint. The overall living conditions of the citizenry are likely to be affected. The Centre
could so easily have announced some measures to provide fiscal relief to the States to help them cope
with the adverse effects of the downturn. Such measures could include reducing interest rates,
providing more Central funds and, most of all, relaxing fiscal responsibility norms that are
inappropriate for the current situation and which the Centre itself has already discarded.

9. Food Crisis:

Similarly, the food crisis has been forgotten in all the excitement about the financial crisis. Food
insecurity remains widespread and may even be spreading, given the significant rise in prices over the
past two years. While overall inflation has been easing, food inflation in India continues despite large
food grain stocks. And the real incomes of workers and cash-crop cultivators have not kept pace with
this. Poor or inadequate nutrition is already a big problem, which will deteriorate as the downturn
worsens.

This is a time to allocate much more money on expanding, universalizing and improving the
functioning of the Public Distribution System. This would at least partly alleviate the problems of those
who are already at the margins of survival as well as those who could be tipped over into poverty by
the recent economic processes. And there is a major need to address the financial problems of
cultivators, who produce food and other essential agricultural items. Yet, there is no mention of any
such attempts in the package.

10. PSU Banks:

The going may get tough for the state run PSU banks with the government remaining silent on
providing interest subsidy even as it stressed that they should reduce interest rates to 7.5 percent of
housing loans of up to Rs 20 lakh. Bankers said that the “move is neither feasible not desirable”. A
PSU bank CEO pointed out that the average cost of deposits is around 9.5 percent at present. The cost
of deposit is much higher than the lending rates and this is a recipe for disaster. An interest subsidy of
at least 2.5 percent is required in a bid to offset the financial damage. Banks may have to reduce
deposit rates drastically to be in sync with such low lending rates. The move to reduce interest rates for

15
loans up to Rs 30 Lakh, though, is expected to provide the much required fillip to the real estate sector
but has left the bankers a worried lot.

11. Excise Cut:

The 4 percent excise duty cut is estimated to cost the Government Rs. 8700 crore by way of foregone
revenues.

RBI rate cuts unlikely to stem slowdown. The overall impact of the monetary and fiscal measures
announced by India over the weekend is 'positive' but marginal. The recent policy steps were likely to
be insufficient to quickly reverse slumping growth in investment and exports.

BAILOUT PACKAGES BY THE INDIAN

GOVERNMENT
1. The bailout for Air India:

The civil aviation ministry has moved a draft Cabinet note proposing a bailout package worth Rs 2,500
crore for National Aviation Company of India (NACIL), which runs Air India. The final package is
likely to be put in place by January after views of all ministries concerned are taken into account.

NACIL has been asking the government to provide financial help to meet its working capital
requirement and expansion plans. The company had to bear an additional burden of Rs 2,310 crore on
account of high jet fuel price during April to October.

“We have moved the Cabinet for providing soft loan and equity infusion to Air India. By January is
should be finalised,” a top ministry official said, without quantifying the financial package.

The domestic aviation sector has been bleeding on account of high jet fuel prices and is one of the
worst affected sectors from the downturn in the economy. It lost nearly Rs 4,000 crore during 2007-08
and the accumulated loss is expected to double in the current fiscal.

Air traffic growth during November fell 22% to 3.04 million. Most of the air carriers operated flights
with nearly 40% seats empty. As per industry estimate, airlines break-even at over 70% occupancy of
the aircraft.

Air India, the country’s largest airline by market share, operates about 150 aircraft in the domestic and

16
international market. The airline recently pulled out its service from various commercially unviable
sectors to reduce cost. It expects to save Rs 1,200 crore by rationalising operation and optimising its
resources.

The airline shares almost half of the total industry losses. While it recently cleared dues of about Rs
1,000 crore to oil marketing companies, it still owes a whopping Rs 739.5 crore to Airport Authority of
India.

2. Export Sector Bailout:

Exporters who have purchased export credit protection are set to get an additional dole-out from the
government over and above the cover they have already bought.
The government is expected to come out with a Rs 350-crore additional package for exporters soon.
This will be in addition to Rs 5,000-crore refinance package announced earlier in the month by the
Reserve Bank of India for Exim Bank to provide liquidity support to troubled exporters. The funds will
be used to provide export credit insurance cover to exporters over and above the protection provided by
Export Credit Guarantee Corporation, ECGC executive director S Prabhakaran said at a CII seminar.

Mr Prabhakaran said: “Exporters who have ECGC cover will get an additional 10% of money
depending on the type of cover. It will cover those entities who are covered by the MSMED (Micro
Small and Medium Enterprises Development) Act.” While the details of the package are still being
worked out, the non-SME beneficiaries from the package are likely to be from sectors like textiles,
gems and jewelry and leather. The list is expected to cover the list of beneficiaries in detail, Mr
Prabhakaran added.

One of the fall-outs of the global financial markets in most western markets since September this year
is that many Indian exporters saw a dip in demand and had to cancel order. For the first time in several
years, the country’s exports saw an absolute dip in exports this year. Many even faced payment and
credit problems, leading them to enforce their claims with the credit insurer. Many have also been
facing problems because of a volatile rupee.

Mr Prabhakaran said the Corporation has seen the size of claims going up, but added it was
comfortable resource wise and will not increase the premium. “We are having a comfortable claim to
premium ratio.” Mr Prabhakaran said ECGC is not shunning new entrants wanting to cover.

Instead, it is encouraging to go in for turnover-based policies instead of transaction-based policies and

ensure that exporters go for a long-term protection rather than going for selective cover. But unlike in
India many commercial entities like COFACE have already indicated their unwillingness to take on
exposures in countries like UK, USA , Ireland, Iceland and Italy.

3. The Textile Industry Bailout:

Government announced revival package to bail out textile industry reeling under world economic
meltdown. The Union government has allocated some Rs1,400 crore to clear a backlog in its
Technology Upgradation Fund Scheme (Tufs), aimed at modernizing textile machinery.

Through the scheme, the government reimburses 5% of the interest on bank loans.

17
The $52 billion (Rs2.5 trillion) industry has been impacted on slowing global consumption and cash
flow problems at home. Small and medium enterprises comprise 80% of the sector.

The subsidy scheme, meant for pre- and post-shipment credit, ended on 1 October. The latest package
has, however, restored it by half the original rate at 2%.
As a direct fallout of lower production and cancelled export orders, the textile industry—that employs
some 35 million, the largest after agriculture—has hugely laid off temporary workers. Citi estimates
such job losses number between 700,000 and 500,000.

The retrenchment figure, said Citi director general D.K Nair, has been calculated on lower output
forecasts for the year. Production is likely to fall by 5% this year, he said.
CURRENT POLITICAL SITUATION

Winter can get gloomy in Delhi — fog and clouds block out the sun, people are sapped of energy and
the mood turns less than cheerful. This kind of a winter has the Indian economy in its grip.

Policymaking is clouded, inertia is more visible than action on the ground and the mood is far darker
than it ought to be. But there is a way out. And that is politics.

The Opposition led by the CPM has warned the government to stop “hot pursuit of crony capitalism”
which means that the number of billionaires in the country was rising and announce a comprehensive
economic package.

While the BJP has accused the “dream team of Manmohan Singh and Montek Singh Ahluwalia” of
turning the economy into a “nightmare”.

The UPA has been blamed to be following the “wrong strategy” of focusing on business houses rather
than the common man.

In today’s strained circumstances, there is tremendous pressure on elected governments to do

something; more so when we have elections looming ahead.

So it might be too much to expect Indian policy makers to take a leaf out of the books of countries like
Germany and Poland (whose prime minister bravely declared he has no intention to spend his way out
of trouble).

The fiscal stimulus is expected to control the economic slump to some extent. In effect, the guiding
principle appears to be to appease different lobby groups keeping an eye on the forthcoming elections.

The government should have reconsidered its decision to implement the second part of the Sixth Pay
Commission Arrears to its employees (except the Defence Forces). Babus and bureaucrats don’t
require hefty pay hikes in times of approaching recession.

After the resignation of the Home Minister Mr. Shivraj Patil in December, P. Chitambram was
appointed as the new cabinet Home Minister. But the move to leave the finance ministry virtually in
auto-pilot mode was very rash. Although there won’t be a Budget next February (since the nation is

18
going to the polls next year), the Finance Minister’s role assumes critical importance in a worsening
economic situation.

The talk now doing the corridors of power is whether Singh will keep the finance portfolio or appoint
someone else. Every time there was talk of Chidambaram moving out, the names that cropped up
included former RBI Governor C Rangarajan, Planning Commission Deputy Chairman Montek Singh
Ahluwalia and Commerce Minister Kamal Nath.

The terror strikes will invariably affect the tourism industry which is expecting a 25 percent fall in
bookings. This is due to the advisories issued by western nations to their citizens about their visits to
India.

DEMANDS FOR THE SECOND STIMULUS PLAN

1. First and foremost, a line of liquidity must be assured.

Liquid mutual funds are the most vulnerable part of the financial structure at the moment; last week,
two liquid mutual funds had to be shored up and Monday, three had to be given urgent assistance by
Life Insurance Corp (LIC).

2. The 150 basis point cut in the CRR announced Oct 10 is a first but inadequate step. It should be
brought down to 5 percent.

3. Oil bonds and other off-budget items (such as fertiliser subsidies) need to be included in budgetary
calculations as government borrowing.

Once we bring these items on to the government's balance sheet, they can be converted into SLR
(statutory liquidity ratio) bonds. With these measures, we will introduce further liquidity into the
system.

4. Government must, through SIDBI and other appropriate institutions, ensure funds for small and
medium enterprise (SMEs). Failure to do so will result in massive unemployment, and exacerbate
social tensions.

5. Measures should be initiated to ensure funds for the Rural Employment Guarantee Scheme reach
intended beneficiaries, and loans against Kisan Credit Cards released.

These blockages (of funds) - which could not be inadvertent - must be opened so that funds are
available to the farmers in particular

6. Steps should be taken to bring the repo rate down by 200 basis points by March 2009.

7. Restriction on interest rates to be paid to NRIs should be relaxed, and the government and RBI
should float the equivalent of the India Millennium Deposits and the Resurgent India Bonds instituted
by the NDA government.

19
Today, NRIs are fearful about their savings. NRIs are looking for a safe haven for the savings. Today,
they cannot be paid more than Libor plus 75 basis points for their deposits - this at a time when the
most creditworthy entities abroad are not able to get even short-term funds at Libor plus 400.

Apart from other advantages, he said such a step would ease the pressure on the rupee and help
stabilise the exchange rate.

8. P-notes are being abused and should be discontinued.

9. Naked short selling must be outlawed, and short selling in itself must be regulated and made
completely transparent.

10. Forex reserves should be used to finance and expedite infrastructure development. India must set
up a sovereign wealth fund, which is professionally and competently managed, to invest these reserves
effectively.

For four years, the Government has gone on debating what to do with foreign exchange reserves. A
good proportion of them have been parked in US Treasury Bonds

11. Banks should be enabled to go in for rights issues to infuse liquidity and make them more
competitive.

12. The Indian debt market should be opened further to calm the FIIs. Regulations should be altered to
enable them to invest in and hold government and corporate bonds, thereby providing a safe asset as
well as reasonable returns.

For the country, by helping dampen the pressures on FIIs to withdraw funds, it will help stabilise the
exchange rate.

13. The FICCI has asked the government to create growth packages for various sector of the economy
especially those hit by shrinking demand at home and abroad. The 15% year-on-year fall in in excise
duty collections in November mirrors poor industrial output. Factory output contracted by 0.4
percentage point year-on-year in October, driven largely by reduction in manufacturing growth.

14. The Airlines want a uniform tax rate of 4% to be levied on aviation fuel across all states of India.

15. Banks want the government to rethink its move of putting pressure on them to reduce interest rates
to an unacceptable range of 7.5% to 8.5 percent. They are urgently demanding a 2.5% rate subsidy.

16. Textile Sector

India’s textile sector is high on hopes of getting financial bailout from the second stimulus package.
The sector, which has seen a sharp decline of 30% in its expected export target at Rs 25,000 crore for
the current fiscal, wants an interest subvention of 4% from the existing 2%, amongst others.

Says Amit Goyal, president, Confederation of Indian Apparel Exporters (CIAe), We have requested the
ministry to grant a moratorium period of three years before the textile players start paying their interest
on loans taken from banks to meet their financial needs.

20
If the flexibility of granting a pause before the interest payment is not granted, the fraternity will
default on their payments. He further said, We have also demanded duty drawback rates to be increased
from the current 8.5% to 14.5% and certain income tax benefits so that the sector s financial health
improves.

In addition to the interest subventions and tax benefits, textile minister, Shankar Sinh Vaghela has also
asked the ministry for a Rs 2,600-crore package to help handloom cooperatives. The package includes
a waiver of loans for handloom cooperatives and loans at concessional interest rate of 7%. It may be
recalled that the sector, which is labour intensive, did not have much financial relief in the stimulus
package for the economy announced by the government on December 7.

The government had announced a bailout package of Rs 1,400 crore and an interest subvention of 2%
till March 2009 which had upset the players. Meanwhile, Vineet Nigam, a senior analyst at rating
agency ICRA says, High inflation rate and slow industrial growth have been undermining the actual
potential of the textile sector. If tax benefits are not granted by the government, there will be a further
dip in exports.

17. Stimulus to hike deficit by 200 basis points:

The government's stimulus package will increase the fiscal deficit by 2 percentage point as a
proportion to the GDP, said the finance ministry's chief economic advisor, Arvind Virmani. The review
itself notes that the first six months of the current financial year had seen the deficit reach 77% of the
budgeted amount for the year against just 53.8% in the same period last year.

Government data separately released shows that by October end the fiscal deficit was 87.8% of the
full-year target. Apart from the stimulus package, the implementation of the sixth pay commission and
farm loan waiver scheme - which were not provisioned for in the budget in February - have also led to
a widening of the fiscal deficit. In fact, if off-budget items like oil bonds and fertilizer subsidy are
added to total government expenditure, the effective fiscal deficit is likely to cross 7% of GDP.

Virmani pointed out that "the decline in crude oil prices will create more fiscal space". On the price
front, he said inflation was very much under control and would come down to acceptable levels of
below 5% by March end. The review said there was now scope for easing monetary policy after the
tight money policy in the first half of the fiscal and added : "An aggressive monetary policy may be
necessary if global economic depression continues to adversely affect manufacturing."

18. A stimulus package for farmers:

With 60 per cent of India's population directly engaged in agriculture, and another 200 million landless
workers indirectly banking on farming, the real stimulus to the economy can come only if the focus
shifts to agriculture.

Buried under the whole array of angry reactions following the Mumbai terror attacks is yet another and
perhaps more violent disaster. A terribly shocking and startling news - that should have shaken up the
country's screaming elite - has instead not even been perceived by the electronic media as worthy of
being covered even fleeting in the usual 'breaking' news. That 16,632 farmers had committed suicide in
2007, with Maharashtra topping the list, has been simply brushed aside.

The reason is obvious. They did not belong to the Taj-is-my-second-home class.
21
While the serial death dance in the countryside continues unabated, with an estimated 182,936 farmers
- as per the National Crime Records Bureau (NCRB) - taking the fatal route since 1997 to escape the
humiliation that comes along with growing indebtedness, the government is on a bailout spree. Since
September, the government has provided a fiscal stimulus of Rs.5000 billion by way of liquidity and
other budgetary provisions. Another stimulus package is awaited, on top of this.

Exporters, for instance, have twice received a stimulus package. First when the rupee/dollar exchange
rate had slumped to 37, the textile and garment exporters had pitched for higher support. The
government had moved in swiftly pumping in over Rs.1400-crore. Now when the exchange rate is 50,
the industry has again managed a second dose.
Not to be left behind, Indian cotton ginners and exporters are also demanding a bailout. They want the
government to bridge the difference between a higher minimum support price for cotton, and the world
prices. Citing a 95 per cent drop in exports, the industry is demanding a rescue package. When the
MSP was low and the international prices were higher, the same industry never asked the government
to compensate the cotton farmers!

Amidst all the doom and gloom, the only sector that has emerged unscathed to a large extent is
agriculture. Whether India was shining or sinking, agriculture truly remained the mainstay of the
economy. Complete apathy and neglect of the farm sector drove farmers to commit suicide, and also to
quit farming. Facilitating the demise of agriculture are the government policies that are now forcibly
enforcing land acquisition, and bringing in polices for corporate takeover.

A bailout package for agriculture doesn't mean a bailout package for the tractor industry or the food
processing industry.

With 60 per cent of India's population directly engaged in agriculture, and another 200 million landless
workers indirectly banking on farming, the real stimulus to the economy can come only if the focus
shifts to agriculture. When I say agriculture, I don't mean a bailout package for the tractor industry or
the food processing industry. This would be counter-productive. Nor would it be cost effective.

What is urgently needed is a radical shift by stimulating the farm sector. This is a sure recipe for
revitalising the economy. First, the package should be for regenerating agriculture, providing sops for
organic farming systems that can restore soil health. The Rs.1.20 lakh crores fertiliser subsidy should
be given directly to farmers so that they can make an informed choice of shifting to natural farming
systems. And finally, the package should focus on farmers' welfare. A fixed monthly income based on
the principle of direct income support is what the beleaguered farming community needs.

In addition, the National Rural Employment Guarantee Act 2005 (NREGA), which guarantees a
minimum 100 days employment every year to rural workers and promises a moderate minimum wage
per day, should have the upper cap of 100 days immediately removed. Rural workers need to be given
employment for 365 days, like all of us in the organised sector. This in turn will generate demand that
is expected to kick-start the economy. At the same time, there is an urgent need to link NREGA with
agriculture. This is the recipe for all around growth. And not only limited to those who consider the
Mumbai Taj to be the national icon.

19. Fall in Exports:

22
For the first time in seven years, export growth fell 12.1 per cent year-on-year for the second quarter,
according to data released by the Central Statistical Organisation in November. The textile industry,
which accounts for 17 per cent of India's exports and employs 88 million people, is showing the strain.
India's textile producers are likely to generate $20.5 billion in revenue this year, way below New
Delhi's target of $30.5 billion.

Within the stimulus package is a nearly $1.5 billion credit window for smaller businesses, to be
handled by the Small Industries Development Bank [Get Quote] of India [Get Quote], and a nearly $1
billion refinance option that will be handed out by the National Housing Board. To boost consumer
spending in sectors such as autos, cement, and textiles, the government will lower the tax on all
products, excluding petroleum, by 4 per cent.

20. Second stimulus package needed to boost IIP:

Industrial production will continue to fall if the government did not give another second stimulus
package to prop up stressed sectors, especially manufacturing.

"On the other hand, India’s export outlook is dismal. Outbound shipments declined in October, but the
worst is yet to be seen. Losing support from external orders, India will unlikely see a rebound in
manufacturing output any time soon," she warned.

Added Tushar Poddar, an economist with Goldman Sachs: "Although we were expecting industrial
production to be low, we did not anticipate a negative print for October. We, therefore, expect overall
activity to be sharply lower in the second half of financial year 2009, after growing by 7.8 percent in
the first half."

India's industrial growth fell 0.4 percent in October, compared to a growth of 12.2 percent in the
corresponding month last year, according to data released by the Central Statistical Organisation (CSO)
Friday.

The index of industrial production (IIP), a measure of industrial activity in the economy, slipped into
the negative zone mainly because of the manufacturing sector growth falling to 1.2 percent in October
from 13.8 percent a year earlier.

"Given the present situation, the early announcement of the second stimulus package as mentioned by
the commerce and industry minister will help in restoring the buoyancy in the industrial production,"
FICCI said in a statement.

21. Weak fiscal and monetary stimuli:

Now that there has been a reversal in the RBI's tight monetary policy stance and the government
announcing a fiscal stimulus package, FICCI said it hoped this leads to improved growth.

"Despite a global market turmoil, India’s central bank continued to tighten monetary policy until July
and the loosening cycle did not commence until October. Hence, the moderation in domestic demand is
a result of the tight monetary policy settings in the first nine months," said Sherman Chan, economist
with Moody's Economy.Com.

23
"The aggressive monetary easing since October may not have led to an immediate rebound in domestic
consumption. As such, manufacturing orders from the domestic sector likely remained modest in
November and December," Chan added.

"The fiscal and monetary stimuli are good, but they aren't enough for the economy to revive," says Adi
Godrej [Get Quote], chairman of Godrej Group, a Mumbai consumer products company. He expects a
"fresh dose" of stimulus by early January. "It's the right time as inflation is low," he adds. Inflation
today is at 8.4 per cent, down from 12 per cent in October.

22. Other Issues:

Under withering criticism for its handling of the country's economic slowdown and Mumbai's terrorist
attacks, the Indian government fought back by announcing a coordinated, two-flanked stimulus plan
that could top $8 billion. India's moribund stock market momentarily cheered, rising almost 4 per cent
by midday (Monday). But it then deflated, closing up just 1.5 per cent, on a day when other Asian
markets soared on optimism about economic recovery plans in the US and China.

The estimate for GDP growth remains below consensus at 6.7 percent year-on-year for FY09 with
further downside risks, and 5.8 percent for FY10. We continue to expect the Reserve Bank of India
(RBI) to ease both the repo and reverse repo rates by 150 and 100 bp respectively by end-March 2009.

Sajjan Jindal, president of the Associated Chambers of Commerce and Industry (ASSOCHAM), said
that the reversal in IIP figures are unlikely and stressed sectors like manufacturing real estate, steel,
cement, textiles, leather and automotive components, would have to be given a bigger booster doses by
government.

“It is in view of this, the ASSOCHAM reiterates its demand that another stimulus package of Rs.700
billion (Rs.70,000 crore) is urgently called for to provide relief to Indian Inc, including a reduction of
another 200 basis points in CRR," he said.
Assocham has also sought that the statutory liquidity ratio (SLR) that banks are required to maintain is
reduced from 24 percent to 20 percent to help companies access liquidity.
“Now is the time to immediately release the second stimulus package. To bring the Keynesian
multiplier in full effect a third stimulus package must be planned from now and released in mid
January 2009 to return the economy to a sustainable growth rate above 7 percent”, said Amit Mitra,
secretary general of the Federation of Indian Industry (FICCI).

The second stimulus package, Nath said, would be aimed at generating employment and ensuring that
the credit needs of the companies are met.

In the next package, the Minister said, "We will look at engineering sector, greater re-finance facility
for exporters and textile and agriculture sectors."

The second stimulus package assumes significance as the World Bank in its report yesterday expressed
fears of a deeper and prolonged slowdown which may pull down the global economic growth to less
than one per cent in 2009.
24
Many of the developed nations like the US, Japan and some countries in the Eurozone are already in
recession and India is witnessing the ripple effects of the slowdown.

The government also dropped gas and diesel prices, already subsidised by the state, by 6 per cent and
10 per cent on Friday. "The weekend packages, coupled with increased public spending in the runup to
the elections, could act as an antidote," especially for small and midsize enterprises, says Rohini
Malkani, an economist at Citigroup in Mumbai.

With elections looming, and the Finance Ministry under Prime Minister Singh's direct supervision, it is
unclear what the government can do next. Until now, not much has helped ease the impact of the global
slowdown, which is likely to shave as much as two percentage points off India's expected 9 per cent
growth in GDP for 2008. Consumption in the second quarter of this fiscal year was 5.5 per cent, a four-
year low.

Any new announcements will probably be delayed till mid-January, when the Prime Minister convenes
a conference on economic affairs in New Delhi. By then, government policymakers will have heard
from both industry lobbyists and the stock market, and Singh might be feeling more forceful after a
surprisingly strong showing by his Congress Party in local and state elections that ended Monday.

As the business community's less-than-enthusiastic reaction to the package sank in, New Delhi sought
to reassure investors that the government of Prime Minister Manmohan Singh is not finished. More
measures are on the way, Kamal Nath, the Minister for Commerce & Industry, told a group of reporters
outside his New Delhi office. "There is Step One, then there is Step Two, and then there is Step Three,"
he said.

But with India already facing sizable budget deficits, significant inflation, and a continuing liquidity
crisis, it is unclear what more the government can do, especially if it wants to hold on to its credit
ratings.

"Frankly, this is the most that India can afford," says Aninda Mitra, a sovereign credits analyst at
Moody's in Singapore. He estimates the cost of this package to be 0.8% of India's gross domestic
product, which brings the country's budget deficit close to 10 per cent of GDP, if one includes all
government borrowings and not just those of the central government. "This is a country with very large
government debt," says Mitra. "You can't start to expect China-style packages."

India's stimulus package, released in two steps over the weekend, pales in comparison with China's
recently announced $568 billion infrastructure projects, or the multifaceted public works program that
President-elect Barack Obama has promised for the US.

Nonetheless, it is the country's first solid expenditure plan since the start of the global crisis. Until now,
New Delhi has largely cut interest rates and tinkered with bank cash reserve ratios and purchase-
repurchase rates; those moves increased the amount of cash available in the banking system by about
$60 billion.

Meanwhile, the spigots of already-scarce credit continued to tighten, hitting small and midsize
enterprises hardest. With no formalized credit scores, and banking relations that depend on proximity
and familiarity, many family-owned companies complained that their growth plans were coming
undone.
25
STIMULUS PACKAGE II

26
The government on 2nd January 2009 announced the second and final instalment of its fiscal stimulus
package. Complementing monetary easing by the Reserve Bank of India (RBI), the Centre enhanced
the spending power of states with specific measures to boost credit availability.

27
The latest measures, which come in less than a month after the first package was unveiled on
December 7, are aimed at benefiting housing, NBFCs that lend to infrastructure and finance
commercial vehicles.It offered additional sops to exporters and the small-scale sector, besides raising
the level of protection for cement and steel sectors a tad. It has also incentivised purchase of
commercial vehicles.

1. CREDIT AVAILABILITY

Credit availability has been hiked in a variety of ways, the interest ceiling on external commercial
borrowings has been removed; the cap on foreign institutional investments in the domestic corporate
debt market has been jacked up two-and-a-half times from $6 billion to $15 billion; a special purpose
vehicle is being created to lend to non-banking finance companies to the tune of Rs 25,000 crore;

Indian Infrastructure Finance Company is being permitted to raise another Rs 30,000 crore by means of
tax-free bonds, and states are allowed to borrow an additional Rs 30,000 crore from the market.

In addition, public sector banks would be given additional capital to the extent of Rs 20,000 crore over
the next two years, so they can lend roughly 10 times as much additionally.

2. HOUSING SECTOR:

To boost the housing sector, the Centre will work with states to encourage them to release land for low-
income and middle-income housing schemes. The general lowering of interest rates would allow home
loan rates to come down as well.

To facilitate access to funds for the housing sector, companies developing integrated townships have
been allowed to borrow overseas with prior approval of RBI. The ceiling on interest rates for all
overseas borrowings has been removed to provide flexibility to companies to borrow abroad.

The government sets credit

targets for the banks it owns. These targets are being revised upward to ensure flow of credit to
industry. The government would also closely monitor, on a fortnightly basis, the provision of sectoral
credit by these banks.

3. EXPORT SECTOR:

The measures for the export sector, which has been hit the most by the recession in developed
economies, include an extension to the Duty Entitlement Passbook Scheme up to December 31, 2009.
Besides, duty drawback benefits on certain items, including knitted fabrics, bicycles, agricultural hand
tools and specified categories of yarn, have been enhanced.

These changes will take effect retrospectively from September 1, 2008. Exim Bank has obtained a line
of credit of Rs 5000 crore from RBI and will provide pre-shipment and post-shipment credit, in rupees
or dollars, to Indian exporters at competitive rates. Merchandise exports, which constitute 15% of the
country’s GDP, declined by 10% in October and November 2008.

4. INFRASTRUCTURE SECTOR:

To ensure that infrastructure projects are not starved of funds, the government allowed IIFCL to raise
28
additional Rs 30,000 crore by way of tax-free bonds, giving it a larger pool of funds to refinance long-
term loans to the sector. This will enable the specialist infrastructure lender to fund additional projects
of about Rs 75,000 crore at competitive rates over the next 18 months.

5. STEEL & CEMENT SECTORS:

To provide protection to steel and cement sectors, which have been hit by the slowing demand, the
government has brought back countervailing duty on TMT bars and structurals and cement at the rate
of 4%. Besides, cement will attract additional customs duty of 4% and TMT bars and structurals at the
rate of 10%.

These duties were removed to provide relief against inflation which has been on a downslide and
declined to 6.38%, in the week ended December 20, 2008. The government has also reimposed
customs duty on zinc and ferro alloys at the rate of 5%.

6. AUTOMOBILE SECTOR:

The package includes measures for the automobile sector which is reeling under a demand slowdown.
To boost purchase of vehicles, the centre will provide assistance to states for purchase of buses for their
urban transport systems under the Jawaharlal Nehru Urban Renewable Mission till June 30 this year.
Besides, accelerated depreciation of 50% will be provided for commercial vehicles on or after January,
2009 and up to March 31,2009.

7. RELIEF FOR STATES:

States facing constraints in financing expenditure because of slower revenue growth have been allowed
to raise additional market borrowings of 0.5% of their Gross State Domestic Product (GSDP),
amounting to Rs 30,000 crore for capital expenditure in the current financial year.

Moreover, the government will closely monitor its spending to expedite the pace of expenditure for all
schemes and programmes. It will set up a fast track monitoring committee to ensure expeditious
approval and implementation of central projects and has advised state chief ministers to do the same.

8. MICRO-ENTERPRISES SECTOR:
In order to enhance flow of credit to micro-enterprises, the government had increased the guarantee
cover extended by Credit Guarantee Fund Trust to 85% for credit facility up to Rs 5 lakh. This will
benefit about 84% of the total number of accounts accorded guarantee cover.

9. NON-BANK FINANCE COMPANIES:

In a bid to ease cash woes of NBFCs lending to the infrastructure sector, the government has allowed it
to access ECB from multilateral or bilateral financial institutions with a prior approval from RBI.

Besides, PSU banks will provide a line of credit to NBFCs financing commercial vehicles. A SPV will
be designated shortly to provide cash support against investment grade paper to these entities.

The scale of liquidity potentially available through this window is Rs 25,000 crore.

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Specialist non-bank finance companies (NBFCs), that focus on infrastructure lending, can now avail
ECBs or foreign loans from multilateral and regional lenders and state-owned development financial
institutions, provided they have the central bank’s approval for it.

While approving their applications, the RBI will take into account the aggregate commitment of these
lenders to infrastructure projects in India.

A large number small and medium-sized developers of infrastructure projects borrow from these
finance companies. NBFCs are financial institutions similar to banks, but cannot offer savings or
current accounts or issue cheque books to their depositors.

10. FOREIGN INSTITUTIONAL INVESTMENT IN CORPORATE DEBT:

Indian corporates, struggling to raise money from banks, can now tap more funds from overseas
foreign portfolio investors with the government more than doubling the limit for investment in
corporate bonds from $6 billion to $15 billion.

Foreign funds, who sold stocks worth $13.5 billion in 2008 have been aggressively buying local debt
paper. In fact their total purchases of $3 billion in 2008 is more than half that they have made in bonds
ever since Indian regulators allowed foreign portfolio investments in the country. Bond dealers say a
large part of this has been in corporate bonds.

So far, FIIs have utilised $5 billion of this investment window and the rest is expected to be subscribed
in the next two weeks. These dealers say the move is very timely as it will help satisfy the growing
appetite of foreign funds looking to take advantage of the relatively higher interest rates in India.

Besides widening the investor base, the move is also expected to bring down corporate spreads. A
senior foreign bank official said that with yields falling, investors would like to adopt a wait and watch
approach in the near term before taking a decision on fresh investment.
“The appetite for investing in corporate bonds has always been there,” said Shashikant Rathi, vice-
president at Axis Bank’s capital markets group. “But the earlier restrictions in investment per foreign
entity usually put off many investors," he added. He said that market regulator Sebi may now distribute
the limits more freely among foreign funds and this would attract more investments in corporate bonds.

Last time when the higher entitlements for corporate bonds were approved on a first-come-first-served
basis by Sebi, they were snapped up by these investors in a few minutes.

A positive fall out of Friday’s move could be a contraction in corporate spreads. The spread is the
premium in yield that a company has to pay over comparable sovereign paper to compensate for the
extra risk he (investor) is taking.
After the Lehmann collapse in September, the risk aversion that had gripped traders led to spreads
zooming.

Bonds issued by even government backed PSUs have been quoting at a spread of 275-300 basis points
currently. The number for private issuers is still higher at 350-375 bps. All this could shrink in the
coming days. Policy makers hope that the move will add to the liquidity of Indian firms, who have
been actively tapping the bond markets to raise money recently. It would also shift the currency risk on
to foreign investors, they believe.
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11. COMMERCIAL VEHICLES SECTOR:

The government's special fiscal package for truck and bus makers will create a demand pick-up but
ultimately, consumer interest will be driven by ground-level revival of business, say truck and bus
makers. "There are three elements of the package," said Pawan Goenka, COO-automotive division,
M&M.
 First public banks will offer a special line of credit to NBFCs for truck and bus financing which
will "ease the credit crunch and make it easier to buy a new vehicle".

 Second commercial vehicles bought from January 1 to March 31 will be able to claim 50%
accelerated depreciation which will "act as a big price discount".

 And lastly states will be offered help under the JNNURM to buy buses for their urban transport
systems "unlocking a block order.

Together with the excise incentives and repo and reverse repo rate cuts in December, this addresses
most of the demands of the commercial vehicle industry," Mr Goenka added. Dittoed Dilip Chenoy,
director general, Society of Indian Automobile Manufacturers: "The funding of the purchase of buses
under JNNURM would help increase capacity utilisation." That's crucial at a time when plant
shutdowns and temp layoffs are becoming routine.

12. CUT IN KEY POLICY RATES:

The Reserve Bank of India on 2nd January 2009 cut key policy rates. The repo and the reserve repo rate
under the liquidity adjustment facility (LAF) has been cut by 100 basis points while cash reserve ratio
(CRR) has been reduced by 50 bps.

Following this move, reverse repo stands at 4%, repo stands at 5.5% and CRR now stands at 5%. The
cut in CRR will infuse Rs 20,000 crore in the system.

The market had widely expected RBI to cut the key lending rates. The cut in repo and reserve repo is
with immediate effect while CRR cut will be effective from fortnight beginning January 17. Since
August RBI cut CRR by 450 basis.

Repo rate is the rate at which banks borrow from RBI while the reverse repo is the rate which RBI
gives banks for parking their surplus funds. These two rates are seen as the floor and the cap for daily
call money movement.

Both reductions are effective immediately. The repo rate has been cut aggressively since mid-October
last year as the central bank tried to minimise the knock-on effects of the global financial crisis.

13. JNNURM:
Second commercial vehicles bought from January 1 to March 31 will be able to claim 50% accelerated
depreciation which will "act as a big price discount". And lastly states will be offered help under the
JNNURM to buy buses for their urban transport systems "unlocking a block order.

SHORTFALLS OF STIMULUS PACKAGE II

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Certain sectors of the economy found their hopes smashed as the stimulus package ignored their many
woes.

1. The revenue loss for the government due to stimulus measures announced so far is estimated at Rs
40,000, finance secretary Arun Ramanathan said on Friday. The government announced measures to
boost faltering economic growth on Friday and the central bank slashed its main policy rates to promote
expansion

2. Exporters, who had high expectations from the government, said they were disappointed. The
Federation of Indian Export Organisations (FIEO) said exporters are not happy with the steps. "We find
no serious consideration (of exporters' demands) except extension of the DEPB scheme," FIEO
President A Sakthivel said.

3. ASSOCHAM said the package is "in the right direction but falls short of expectations".
ASSOCHAM Secretary General D S Rawat said the chamber expected a relief of Rs 1,00,000 crore.

4. Commercial Vehicles Sector: Tata Motors, the largest truck and bus maker in India which recorded a
51% drop in sales in December and a 70% drop in its medium and heavy range, has also welcomed the
fiscal package, but with a rider. "The government needs to work on ensuring that ultimately liquidity
reaches customers at reasonable costs," said Tata Motors MD Ravi Kant. "Although some steps
declared on Friday would help commercial vehicles, the government needs to take many more
measures to substantially stoke demand which has gone into reverse gear. We will continue to expect
more positive measures forthcoming from the government," Mr Kant added.

5. As far as the tourism sector is concerned, union minister of tourism, Ambika Soni had recently
written to the prime minister, seeking certain relief measures including luxury tax rebate for the
tourism and hospitality sector.

However, the stimulus package has not considered any measures that will boost the sector. The travel
and tourism industry, which was reeling under the global economic downturn, has suffered a big blow
after the Mumbai terror attacks.

6. The IT Industry: The proposal to expand the Software Technology Parks of India (STPI) scheme that
grants a ten-year income-tax holiday under Section 10A of the Income-Tax Act to IT and ITeS
companies was discussed by the apex committee set up by the government which was finalising the
modalities of a second stimulus package but no benefits were given in the second installment of the
stimulus injection.

The STPI is still valid till March 2010 but the industry is however, still very hopeful that the
government will eventually take the step which will help a great deal in these troubled times.

7. The IT hardware (desktop, laptops, printers etc) has been witnessing a downturn due to the high
interest rates for sometime. The cut in reverse repo rate and repo rate which will lead to easing of
lending rates is expected to boost demand to some extent yet none of its effects have been seen till now
in the share markets nor on in the international trade.

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8. Rural Sector: This package should have been more coordinated and (needed) direct intervention by
the Centre and the state to step up investment in the rural sector. The 0.5% increase in the borrowing
would just be at best adequate to meet the fall in the tax revenue. This won’t result in a high (increase)
in the expenditure of the state governments.

9. Ceiling on rates for external borrowings: According to Pronab Sen, economist and chief statistician
of India, there has to be a greater emphasis on interventions to remove the bottlenecks in the system.
Sen also questioned the move to withdraw ceilings on the rates for external borrowings, saying that it
would bring in riskier capital into the economy. “I’m not quite sure it solves anything,” he said.

10. Forcing banks to artificially lower interest rates is just as foolhardy. Loans to projects that are
viable only at ‘low’ interest rates run the risk of becoming unviable when rates increase (as they will,
when the government is forced to borrow more to finance its present spending) and are nothing but an
open invitation to repeat past mistakes.

11. Restructuring loans in hard times is normal commercial practice. But there is a thin line dividing
restructuring based on the commercial judgment of banks and restructuring driven by political
interference. The latter puts the health of the banking sector on the line. And as the on-going crisis has
shown, governments that mess around with the health of their banking sector do so at their peril.

12. Sectoral re-finance from the Reserve Bank of India (RBI) for small industries, housing, exports,
etc., might seem a costless way of getting money to needy sectors. But refinance is nothing but
monetization of debt. This can have disastrous consequences once the economy gets back on its track.

13. The easy availability of trade credit is a key turning point in economic rebound. The freezing of
trade credit has left a negative residue in the system. Unfreezing of trade credit would be an important
benchmark.

14. The Exporters were hoping for an export development fund and also as far as procedural issues on
refund because refunds has been a critical issue for exporters, they are saying they are happy that a
committee is being set up and whether or not that will actually speed things up or fast track them as the
government hopes, is clearly not enough.

15. Banks are unwilling to lend to even profitable firms. The central focus of the stimulus package
should have been to break that risk perception.

FUTURE PROSPECTS

33
The rescue effort is an equivalent of giving aspirin to a patient suffering from malaria. This may reduce
the patient’s temperature and make him feel better than otherwise. But it will not end the fever, which
will have to run its course. So, expect economic distress to continue for at least six months, maybe
longer.

Global factors, originating in the US, have caused the recession . Unlike past downswings , the current
one did not start with the weakest, smallest corporations dying first. The five biggest investment banks
of Wall Street disappeared in smoke.

The world’s biggest insurance company, AIG, went bust. The two biggest mortgage lenders, Fannie
Mae and Freddie Mac, went belly up. The world’s biggest bank, Citibank, looked like collapsing but
was rescued by the US government.

So, since September, fear has swept across the world that even the biggest companies are endangered ,
and may not pay their bills. US financial markets froze in October. Nobody was willing to lend to even
the most exalted borrowers. This fear whipsawed across the world, freezing markets everywhere,
including India . Lenders became afraid to lend, borrowers afraid to borrow , and consumers afraid to
buy.

Normally, booms and busts are transmitted from one country to another through trade and financial
flows. For instance , a US recession might mean fewer imports, and less US investment abroad. But
this time the transmission mechanism has been fear.

Internet and TV have transmitted fear at lightning speed across the globe. Hence, the collapse of car
sales in the US in October was mirrored by immediate car sales collapse everywhere — in China,
India, Russia, Latin America. The transmission mechanism was fear, not trade or finance.

We see a simultaneous recession in the US, Europe and Japan. Collapsing commodity prices will
shrink all commodity-exporting economies. India’s GDP growth will slow to maybe 7% this financial
year and 5-6 % in 2009-10. India’s exports have grown faster than GDP for years. But in October and
November, exports have gone into reverse gear. Industrial production in October has fallen for the first
time since 1993. Export industries claim that they will shed a million jobs.

To revive the economy, the government has announced a fiscal stimulus package of nearly Rs 30,000
crore by the end of the financial year, equal to Rs 120,000 crore in a full year. Over and above this,
RBI measures since July have injected Rs 150,000 crore of liquidity into the economy by slashing
lending rates and bank reserve requirements. India is hardly alone in this. Count r i e s across the world
are announcing fiscal and monetary stimuli. China’s stimulus package is worth a whopping four trillion
Yuan over two years.

Even so, the world economy is slipping inexorably downhill. China’s export growth turned negative in
November, so the engine of the world’s fastest-growing economy is sputtering. The US provided a
fiscal stimulus of $140 billion over the last one year, followed by a financial rescue package of $700
billion. The price of oil has plummeted, putting a lot of money into the pockets of vehicle owners.
Why, then, is the world economy still falling? Well, it enjoyed an unprecedented boom in 2003-2008 ,
when world economic growth broke all records. India became a miracle economy, averaging 9%
growth. Even Africa averaged 6%.

34
Alas, that boom was based on unsustainably huge trade deficits, unsustainably high borrowing by US
households and corporations, and unsustainable speculation that drove up the prices of houses, stocks
and commodities. Experts warned for at least two years that this unsustainable binge would end one
day, and it did. That is the nature of the business cycle.

When will India’s economy recover? India is now deeply integrated with the global economy, and will
revive only when the world economy does. In a globalised world, no single country can boom in
isolation.

This was proved dramatically by France in the 1980-82 recession. President Mitterand did his level
best to boost France at a time when the rest of Europe and the US were in deep recession. But all his
stimulus efforts failed. France was too closely integrated with the world economy to boom when others
were sinking.

The same holds true of India today. The government package is a palliative, not a cure. It will mitigate
the pain until the global recovery begins. That will happen when fear is replaced by optimism, when
markets unfreeze , when lenders begin lending and buyers begin buying the world over. That same
global tide of optimism will wash into the Indian economy too.

What can trigger such global optimism? Nobody knows. But the slump began in the US housing
market, so the recovery may start there too. One day, Americans will decide that house prices have
fallen too far, and suddenly home buying will pick up. Once optimism replaces fear in the housing
market , it could do so in the stock market, commodity markets, and the real economy. But i doubt this
will happen till mid-2009 , maybe later. The immediate future is grim.

Widely varying forecasts for the next financial year, 2009-10 have been made by three leading
economists, Arvind Virmani, chief economic advisor of the government; Raghuram Rajan, economic
advisor to the prime minister; and Rajiv Kumar, head of the Indian Council for Research on
International Economic Relations (ICRIER).

These forecasts can be dubbed the good, the bad and the ugly. I would opt for the second of these. I
suspect the times ahead will be bad, rather than good or really ugly. Virmani, an incorrigible optimist,
sees good days ahead. He thinks that after decelerating to maybe 7.5% this fiscal year, growth will
rebound strongly to 8.5% in 2009-10.

Rajan, however, believes that bad days are ahead. He predicts a dip to between 5% and 7% next year.
Rajiv Kumar paints a truly ugly scenario. Using a model that has proved accurate in the past, he warns
that GDP growth could slow to just 3.9% in 2009-10.

Sceptics point out that India is now substantially integrated with the global economy. Exports plus
imports are now 45% of GDP, so a global slowdown will surely hit India hard. Virmani, however,
points out that India’s net exports are very low. Unlike China, India’s current account has more or less
been in balance in the last five years.

So, he thinks India can survive a fall in export demand, as it will be offset by a fall in imports too. Our
top exports like gems and jewellery, textiles and petroleum products are based wholly or substantially
on imported raw materials. I have fears on two scores.

35
First, savings tend to shoot up in good times and fall in bad times. In a boom, people don’t spend their
entire increase in income, so savings increase. But they dip into these savings in bad times, ‘dissaving’
instead of saving. Corporate profits boom and bust along with the economic cycle, and so do
government revenues. So, i fear that the sharp rise we have seen in India’s savings rate is more cyclical
than structural, and that our savings will decline sharply in the global downswing.

Second, high investment does not automatically translate into high growth. It can also translate into
excess capacity and bankrupt companies if the investment has been made in areas for which demand
dries up, as happened during the Asian financial crisis. I do not think India can boom while the world
economy is slumping. Virmani’s prediction of an Indian bounce-back depends on the US bouncing
back within the next few months. The chances of this look slim.

Next, consider Raghuram Rajan’s forecast of 5-7 % growth. This range is so wide that he has a good
chance of proving right. This is unlikely.

More likely is a troubled, hobbled global economy for most or all of 2009. Even if there is a recovery,
it may be feeble. In such circumstances, India’s growth may tend toward 5%, the bottom end of Rajan’s
forecast.

Finally, things could get really ugly if we go by Rajiv Kumar’s ICRIER model, which predicts growth
of just 3.9% in the first half of the next financial year. This model has some credibility: it predicted the
9% boom in 2007-08, and was among the first to indicate a slowdown this year. It is based on 10
leading economic indicators, including GDP growth in the US and Europe, factoring in the global
slowdown.

How do I assess the good, bad and ugly forecasts? Chances of good times ahead, 10%. Chances of bad
times, 75%. Chances of truly ugly times, 15%. I remain a long-term optimist, but the coming year will
be tough.

RBI Governor Duvvuri Subbarao has said that the outlook for India and the world remained uncertain
and the path of the global crisis and its resolution remained unclear.

While the central bank had a roadmap, it was not possible to deploy it all in one go.

"It would be our endeavour to adapt this roadmap to the evolving global developments and implement
it flexibly and pragmatically," he said.
"Our approach, as indeed of every prudent central banker around the world, has been to 'cross the river
by feeling the stones'."

Subbarao said India's economic fundamentals remained strong, but developments in the real economy,
financial markets and global commodity prices pointed to a period of moderating growth and declining
inflation.

"The year 2009-10 will be more challenging than the current one," he said.

"The RBI will continue to be on vigil and do everything possible within its mandate to mitigate the
impact of the crisis on the Indian economy."

36
The government bond market is widely expecting interest rates to fall again soon, with the benchmark
10-year bond yield dropping 30 basis points on Thursday to 5.50 percent.

Subbarao noted inflation had been declining for the four weeks before he spoke, pointing to a faster-
than-expected reduction in the pace of rising prices, while a recent cut in state-set fuel prices should
further ease inflation pressures.

Data on Thursday showed India's wholesale price index, its most widely watched inflation measure,
rose 6.84 percent in the 12 months to Dec. 6, sharply below the previous week's 8 percent and lower
than a Reuters estimate of 7.49 percent.

Subbarao said there had been a noticeable decline in credit demand in November

If this were indicative of slowing economic activity, it would be a challenge to banks to ensure credit
flow to productive parts of the economy.

But he said banks also seemed to be inhibited from lending by high interest costs on deposits and by
concerns about credit quality, but if credit demand was slackening, they should be able to lower their
deposit rates.

While advanced economies had seen contagion spread from the financial to the real sector, in India the
slowdown in the real sector was affecting the financial sector, which then had a second-order impact on
the real sector.

Subbarao said there had been demands for some regulatory relaxation, for instance on non-performing
loans by lengthening the cut-off point after which they are classified as bad loans.

But he cautioned against any relaxation, saying delaying recognition of bad loans just made the
problem worse and if the global downturn was prolonged, banks should just get on and deal with
problem loans fast.

“This is a crisis that has been thrust upon us not because of internal developments, but because of truly
exceptional circumstances in the world economy. I think it’s also clear the crisis is not going to end in
the current year. We should expect from all the global projections that next year is going to be a very
difficult one for the global economy, the year 2009.”

That was Planning Commission deputy chairman Montek Singh Ahluwalia, announcing the second
instalment of the government’s fiscal stimulus. However, opinions vary on the subject; some other
economists expect growth to be more robust next fiscal.

This is the final stimulus package, said Mr Ahluwalia. So the next package, if any, will have to wait for
a new government to be installed at the Centre — by June 2009, that is. The moot point is whether the
growth momentum set off by the fiscal and monetary policies announced so far would sustain and
build on itself.

The Indian economy can grow above 7% in the next financial year, says policymakers and economists,
the caveat being proper implementation of the infrastructure projects already announced and economic
agents, financial institutions and investors, taking decisions based on objective views. They brushed
aside as “irrational” forecasts that next year’s growth rates would be lower than in the current year.
37
Prime Minister's Economic Advisory Council (EAC) chairman Suresh Tendulkar expects over 7.5%
growth next fiscal. “If the government succeeds in pushing implementation of infrastructure projects,
cash-rich corporates, though bottom lines of some are hit, they are still cash-rich, keep the flow of
services and goods moving and economic agents (banks, investors and borrowers) take objective
decisions, the economy can grow at a rate of at least 7.5% in next financial year,” Mr Tendulkar said.

He believes that dimensions of the financial crisis have been magnified by irrational expectations about
the impending doom. Investment activity, which has slowed down on the back of low business
confidence, will rebound in the second half of the next financial year, believes Saumitra Chaudhari,
EAC member and economic advisor at rating agency ICRA.

”The contraction in advanced economies will be over within the next two quarters. I am expecting the
Indian economy to rebound on the back of stornger investment activity in the second half of the next
financial year, pushing the growth rates for next fiscal above 7%” said Mr Chaudhari.

Rating agency Crisil’s principal economist DK Joshi expects the financial markets to improve from
now on. Mr Joshi said, “Monetray measures taken by the central bank is adequate to pump-prime the
interest rate sensitive sectors. Though the export-oriented sectors might take some time to recover, I
expect the growth rate in domestic demand driven segments to pick up within the next two quarters.”
The growth rate will be around 7% in next financial year if the promised government spending
translates into actual expenditure and global growth rate bottoms out.”

Indian Council for Research on International Economic Relations Director Rajiv Kumar begs to differ.
Although the central bank and the Union government have left no stone unturned in an attempt to
stimulate the flagging economy, there would be a 6-7 month time lag before the effects settle in.

“With the global conditions remaining as bad as they are, I expect the growth rate for the first half of
the next financial year to hover below 5%. If the situations improves in the second half of the next
financial year, we can expect a growth rate close to 6.5% for the whole year,” said Mr Kumar.

The last word, however, goes to Mr Ahluwalia. “I don’t think we should focus too much on precise
numbers. This is a world of considerable uncertainty. At 7%, we would be the second fastest growing
developing country and our growth rate would be much higher than anything the developed world is
experiencing. It will not be a bad performance,” he said.

A RAY OF HOPE

38
Experts see a ray of hope in the fiscal stimulus I package of Rs 10,000 crore which is expected to boost
demand for the capital goods sector and the infrastructure industries which primarily include power,
cement, coal, crude oil and petroleum.

India’s growth is based essentially on investing its own savings, and so is relatively insulated from
global finance and fashions. India’s savings rate has shot up from 23.5% in 2001-02 to 37.4% today, a
phenomenal achievement.

High savings constitute a structural change that is here to stay. This will suffice to finance an
investment rate of at least 36% of GDP. So, given that output in India rises at roughly a quarter the rate
of investment, a realistic GDP growth of 9% should be sustainable.

If the world economy recovers in the next six months, a 7% growth looks feasible. This will mean little
deceleration from the current year and hence, little additional pain. This scenario depends on a
resumption of global growth early in the next fiscal year.

Assocham President, S. Jindal hopes that money will flow into the system to support the projects that
have been put on hold.

The Prime Minster who holds the Finance portfolio also, is confident that the country will be able to
maintain the growth rate around 8 percent in the current fiscal. The most pessimistic estimates put it at
7 percent.

It is important now is that the industry and other sectors of economy respond to government initiatives
in full measure and pass on the benefit of price cuts to the consumers. They need to realize that in the
current global crisis when international demand is shrinking, it is only the domestic demand that can
keep the business going.

Fortunately, India with its 1.1 billion population has a huge potential of keeping demand afloat. All
they need is the purchasing power which the Government is trying to do by pumping in funds into the
system.

A silver lining has been the consistently falling inflation rate which has now come down to around 6
percent. With the fall in petrol and diesel prices, the general price line is bound to fall further as petrol
prices constitute an important ingredient of transport costs. We may thus witness a more comfortable
inflation rate much too soon.

Industry sector has welcomed the measures though it expects more to defuse the situation. FICCI
described the measures as “a good start in the right direction”.

While a number of banks have already announced lower lending and deposit rates with effect from
January 1, 2009, a further softening in interest rates seem to be in the offing.

FICCI secretary general Amit Mitra said: “The steps should hopefully give big boost to the slowing
economy,” adding that he expected “business confidence would be restored”.

The bond market quickly reacted to the rate cuts. The yield on the bond dropped to 5.07%, from the
previous close of 5.29%. Industry is hoping that its lending costs, too, will drop.

39
Interest rates are expected to come down further with a lag as banks will first align their deposit rates.

The funding of the purchase of buses under JNNURM would help increase capacity utilization. This is
crucial at a time when plant shutdowns and temp layoffs are becoming routine.

The business environment of the future will be intensely competitive. Countries will want their own
interests to be safeguarded. As tariffs tumble, non-tariff barriers will be adopted. New consumer
demands and expectations coupled with new techniques in the market will add a new dimension. E-
commerce will unleash new possibilities. This will demand a new mindset to eliminate wastes, delays,
and avoidable transaction costs. Effective entrepreneur-friendly institutional support will need to be
extended by the Government, business and umbrella organisations.

Experts, who earlier predicted easing of trade credit by December 2008, are now hoping that it would
be achieved by June 2009.

The world economy continued to contract at a near-record pace in December 2008, but the rate of
contraction has slowed.

There was a marked improvement in the services sector, with the Global Services Purchasing
Managers Index (PMI) at 40 in December, well above the 36.1 level it plummeted to in November
2008.

India does not have a PMI for the services sector yet, but looking at the global pattern, it’s very likely
that in India too the rate of contraction of services will be less than that of the manufacturing sector.
And since services account for 60% of India’s economy, any resilience there will provide a big cushion
for the downturn.

MANAGERIAL IMPLICATIONS AND SUGGESTIONS

40
Even though the government announced a cut in the home loan floating rates, banks are still unwilling
to lend. The government wants them to lend to every productive sector but the banks are still reluctant
to do so. The government says to have taken several rapid fire decisions but these seem to be invisible
to the general public.

Special interest rates have been announced for home loans of upto 5 lakhs for five years and for home
loans upto 20 lakhs. This was raised subsequently to 30 lakhs. The point to note here is that which
common man would benefit from an interest bonus for Rs. 5 Lakhs. Its only the very affluent class
which takes a small loan of a few lakhs just to save tax. And even if the government raises the limit to
30 lakhs, which Bank is ready today to lend to a middle class household. So what has the government
done to revive the realty sector.

By telling builders and developers to cut prices of their residential properties, does it solve the crises
when there are no new buyers as banks are not creating any?

The Realtors are still aiming for those who earn an upwards of Rs 10 Lakhs a year as their market for
affordable flats while such an income is well above the general middle class level.

Labour unions across the country like the Haryana Labour Department have made malls and busy
commercial markets close completely for one day in a week. This is good under humanitarian and
international perspectives but an extra day of business could fetch a few thousand crores more of
income to the already reeling consumer industry.

Inflation rates have come down from 12% in September ’08 to 6.84% by 19th December’08 and it is
expected to come further down to about 4% by February’09. But the FMCG industry or the prices of
necessity goods have seen no reduction. Apar from sum combo deals offered by retailing giants, what
has the government done to make the lives of the common man livable when there are rampant job
losses, no salary hikes and high job insecurity?

"This package is timely and will help demand in the next quarter considerably. The repo and reverse
repo cuts along with CRR (reduction) will ease liquidity for banks as well as have a positive effect on
the cost of credit," CII Director General Chandrajit Banerjee said.

FICCI Secretary General Amit Mitra said the government and the RBI have addressed a wide range of
concerns. The steps "should hopefully give a big boost to the slowing economy," Mitra said, adding
that he expects "business confidence would be restored".

The Government has been concerned about the impact of the global financial crisis on the Indian
economy and a number of steps have been taken to deal with this problem.

The first priority was to re-assure the people of the stability of the financial system in general and of
the safety of bank deposits in particular. To this end, steps were taken to infuse liquidity into the
banking system and also to address problems being faced by various non-bank financing companies.

These steps have ensured that the financial system is functioning effectively without suffering the kind
of loss of confidence experienced in the industrialized world.
Having assured stability of the system, the Government has focused its attention on countering the
impact of the global recession on India's economic growth.

41
On the monetary side, the RBI has sought to pump sufficient liquidity into the banking system to
enable bank credit to meet the expanded requirements of the economy keeping in mind the
contraction in credit from non-bank sources.

Banks have been provided adequate liquidity through a series of reductions in the CRR and additional
flexibility in meeting the SLR requirement.

Interest rate reductions have also been signaled by reductions in the repo and reverse repo rates, the
most recent of which was announced on 27th December 2009 when both the repo rate and the reverse
repo rate were cut by 100 basis points.

Access to external commercial borrowings has also been liberalized so that borrowers capable of
accessing funds from abroad are allowed to do so.

The banks are being encouraged to counter what might otherwise become self-fulfilling negative
expectations by enhanced lending to support economic activity.

These measures in the area of money and credit are being supplemented by fiscal measures designed to
stimulate the economy.

In recognition of the need for a fiscal stimulus, the government had consciously allowed the fiscal
deficit to expand beyond the originally targeted level because of the loan waivers, issue of oil and
fertilizer bonds and higher levels of food subsidy.

The Indian economy depends far less on exports than other fast growing economies do. If the export
market dries up, an export-dependent economy would face crisis.

While India’s exports of goods and services together add up to a little under a quarter of the total
output, the direct export contribution to gross profits and wages and salaries is less than 10% —
substantial, but not huge.

The indirect contribution would be significant, particularly in the case of high value exports like
software and IT-enabled services. But these segments are likely to grow, rather than decelerate, as
companies in the recession-hit large economies seek to cut costs through outsourcing.

The bulk of the demand for India’s output comes from India itself. Consumption demand is about two-
thirds of the output.

In aggregate terms, the bulk of Indian investment is financed out of domestic savings. The current
account deficit is the measure of dependence on external savings for local investment, and this is about
2% of GDP.

All costs are coming down. Oil prices are less than one-third their peak. Globally, food prices are down
a fifth, metals are down by half and the Economist’s index for all commodities is down by a third.

Freight costs are a fraction of what they used to be. India, on the whole, is a net importer of
commodities and not a net exporter of commodities.

This fall in global commodity prices also gives elbowroom to the central bank
42
and the central government to pursue expansionary policies without fear of runaway inflation.

Infrastructure is both crisis and opportunity for the Indian economy. Its dearth constrains growth. But
that crippling paucity also means that a concerted government drive to build infrastructure would not
end up creating an excess of it. Rather, the process of building infrastructure would provide the boost
the economy needs, and the created infrastructure would support further growth.

If all this were so simple, why isn’t growth happening on its own? Just because all the pieces of a
jigsaw puzzle are around, the puzzle doesn’t automatically get solved. Someone has to put those pieces
together the right way. In the case of a slowing economy, what can put the pieces of the puzzle together
is politics.

The government has been spending its energies on sectoral sops — interest rates for cars or housing or
exports. This is wasted energy. All focus must be on spending, preferably on building infrastructure.
And this cannot be done without strong political will and imagination.

When people sit on cash, largescale public expenditure alone can get things moving — this is classical
Keynesian economics. The government must borrow at the cheap rates available to it abroad and spend
on infrastructure in India: roads, towns, dams, irrigation canals and watershed development.

Getting the bureaucracy to move and spend money is tough — there is too much of lethargy,
procedural inertia and plain corruption in the system. Political will alone can energise the system and
make it deliver.

All land-intensive projects languish because of political failure to create a framework for converting
those who lose land to projects into its stakeholders. Nandigram, Singur and Posco are epitaphs to
technocratic activism devoid of enabling, empowering politics. Firm resolve to clamp down on power
theft alone can sustain investment in the power sector.

India has made little attempt to forge partnerships – in equity, technology and distribution in overseas
markets. The newer nuances of global apparel trade demand joint control of brand positioning,
distributing and quality assurance systems.

The government also needs to make policy changes like dereserving the small-scale sector so that it
can achieve economies of scale and adopt a synergistic approach.

To effectively tackle the global and domestic financial turmoil situation India needs to invest in
research and development to develop new products, reduce transaction costs, reduce per unit costs, and
finally, improve its raw material base. India needs to move from the lower-end markets to middle level
value-for-money markets and export high value-added products of international standard. Thus the
industry should diversify in design to ensure quality output and technological advancement.
After all these measures , the two important questions that remain in public mind are whether the prices
of goods and services will actually fall and whether loans will actually be available at cheaper rates. As
far as the first is concerned some manufacturing companies have announced that they will pass on the
benefit of excise cut to the consumers, almost in full measure. In fact some car companies have already
effected it.

Yet, the sales of automobiles across all segments has been falling drastically and the near bankruptcy
position of many auto majors have just made matters worse for the economy.
43
The stimulus package has so far gone to sectors that erred. The proposed interest rate sops to housing
loans of Rs.20 lakh is one such economic misadventure. Forcing banks to reduce interest rates on
housing so as to create more demand is completely unwarranted. Why should the government even
consider a bailout for people who can afford to pay an EMI of Rs.25,000 a month? Why should the
government bail out the real estate sector which has fleeced the society? In the past four years, the
prices of flats have risen by an estimated 450 per cent.

The decision to allow corporates to buy back their foreign currency convertible bonds (FCCBs) with
rupee resources is equally misguided. At a time when we are struggling to conserve our forex reserves
and inflows are slowing, these dollar payments could jeopardise our macroeconomic stability.

The roadway program can provide quick stimulus to employment and output. The intra-state & smaller
roads can be taken up by combining with the rural employment guarantee scheme, wherever possible.

The thrust in infrastructure could incorporate equity participation by the government in private sector
infrastructure projects whereby the government’s support could be leveraged into a magnified boost to
investments. The long-term returns of such an investment will be immense for the government.

Yet another focus area is to unlock critical sectors of the economy such as electricity and coal. Lack of
electricity not only impairs industrial output, but also activities like education and even agriculture,
since in many parts irrigation and electricity are interrelated.

Power production has been a laggard, partly due to inadequate coal availability. Unlocking of coal
resources for national development is an absolute necessity.

Tapping into the global pool of savings of non-resident Indians and sovereign wealth funds in the
Middle East through dollar-denominated bonds is worth the government’s attention as well.

Energy cost and overall inflation will come down as the RBI seems to be in control of the economy.

Continuation of robust bank lending is a must, particularly since most foreign resources have
temporarily dried up. NBFCs’ constitute an important source of fund intermediation. We must ensure
that asset and project financing NBFCs’ access to funds remain unimpaired.

For the next fiscal year, the government must focus on improving its fiscal policy by bringing more
people under the tax bracket and lowering taxes for the working class.

Finally, the focus area for the corporate sector could be to redouble its efforts towards cost
rationalization and enhancing competitiveness.

The tide will turn at some point. The key is to ride it and not be consumed by it.

BIBLIOGRAPHY
MAGAZINES (2008):

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 India Business Management Business Outlook CFA Business
Today India Compass Today Business Magazine World
October 27 November 2 December Nov 16 Dec 27 Novembe October 13
r
April 28 November 30 November 2 Nov 15 October 20
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