January , 2023
Challenges facing India’s growth in the new year
00:45 am

Dr. T. K. Jayaraman

The United States (US), the world’s largest economy, with an annual output of $ 23 trillion
and a per capita income of $ 62,000 and India, an emerging market economy (EME) with the
annual output of $3.12 trillion and per capita income of $1961 finally seemed to have met
with some measure of success in their fight against inflation. There are some more
similarities: They both delayed their action on the questionable assumption that the signs of
rise in inflation in late 2021 were “transient and transitory” and would therefore vanish soon
(Table 1). They waited until May 2022, as their fond expectations did not materialise.

Table 1

Inflation and Interest Increases Rate


India USA 

Year/monthInflation Interest Year/monthInflation Interest 

(%) Rate (%)(%)Rate (%)

2021 December5.66 4.00 2021 December7.0 0.25

2022 January6.01 4.00 2022 January7.5 0.25

February6.07 4.00 February7.9 0.25

March6.95 4.00 March 8.5 (March 16) 0.50

April7.79 4.00 April8.3 0.50 

May7.04 (May 4)  4.40May8.6 (May 4) 1.00

June7.01 ( June 8) 4.90June9.1 (June 15) 1.75

July6.71 4.90 July8.5 (July 27) 2.50 

August7.00 (Aug 8)  5.40 August8.3 2.50 

September7.41 (Sep 30)  5.90September8.2 (Sept 21) 3.25

October6.77 5.90 October7.7 3.25

November5.88 5.90 November7.1 (Nov 2) 4.00

 DecemberNA(Dec 7) 6.25DecemberNA(Dec 14) 4.50

NA- Not available

In the case of the US, the monthly targeted inflation (change in the domestic consumer price
index (CPI) and calculated on a year-to-year basis) by the US Federal Reserve (the Fed), is
2%. However, it was exceeded much before December 2021, when US registered inflation
was 7%. It rose to 8.5% in March 2022. The Fed had to increase its lowest ever policy
interest rate from 0.25% to 0.50%, which was adopted ever since the Covid-19 pandemic
began to ravage the world economies from the mid-2020 and well into 2021, with loss of
lives and livelihoods. The Ukraine-Russia war, which began from February 2022, disrupted
the supplies of petroleum crude and natural gas and wheat to Europe. The resultant increases
in world commodity prices and the war related bottlenecks in supply chain resulted in
unabated price inflation. The US inflation reached an all-time high of recent years, at 9.1% in
June 2022, despite steeper increases in the policy rate by 50 basis points in May.
With steady increases in interest rate by 75 basis points in subsequent months, the US
inflation fell in October to 7.7% and 7.1% in November 2022. Market expectations in late
November and early December 2022 was that the Fed would pause. On December 14, the
Fed on the other hand, not only surprised the economy with an increase by 50 bps but stunned
the economy by announcing “higher rates were still needed to fully tame the worst inflation
about to strike the economy in four decades.” The new rate is 4.5%, its highest level in 15
years. The US economists foresee a prolonged slowdown in growth due monetary tightening,
as “rise in unemployment as the only way to fully derail inflation” and “only higher
unemployment rate and declining wages” would reduce inflation pressures.
India experienced spiraling inflation since late 2021. All along until December 2021, it was
higher than the target rate of 4% but was within the comfort zone, as it was below the upper
tolerance limit of 6% (the target rate plus 2% margin). In January 2022, it touched 6.01%,
breaching the tolerance limit and surged to highest at 7.79% in April 2022. The RBI had to
increase the interest rate from 4% to 4.40.% in May and went on to increase by 50 basis
points to reach 5.90% on September 30, which continued until Dec 7. As inflation for
November fell to 5.88%, it was hoped that RBI would now pause. However, RBI’s Monetary
Policy Committee (MPC) raised the policy interest rate by 35 bps to 6.25%.

“Given the uncertain outlook, a pause may engender a situation where we may find ourselves
striving to do a catch up through stronger policy actions in the subsequent meetings to ward-
off accentuated inflationary pressures. I, therefore, vote for an increase of 35 bps in the repo
rate (from 5.90 per cent to 6.25 per cent) — a departure from 50 bps on three previous
occasions — which itself conveys thesignal of an improvement in the inflation outlook,” RBI
Governor Das said.
No more cheap money policy
Monetary tightening is underway in the US and India. The central banks of the US and
advanced countries have been pumping in money to save their economies from the global
financial crisis in 2008. Withdrawal of accommodative monetary support was not only slow
but also delayed by the well-known ‘taper tantrum’ hesitation during 2013-15 years and in
subsequent years in the US. When the Covid-19 pandemic struck the world, assets and
liabilities were already high. The Fed’s balance sheet was around $900 billion in July 2008,
which bulged to $4.17 trillion by February 2020 and further to $8.7 trillion by December
Ultra-easy monetary policy contributed to more problems. A paper on “Central bank balance
sheets in Asia and the Pacific: the policy challenges” by Jaime Caruana, former Chairman,
Bank of International Settlements (2011), cautioned against the adverse effects stemming
from expansionary policies on both real and financial sectors of the economy: they include
financial instability and financial market distortions, creating conflicts in sovereign debt
Table 2 presents details of buildup of expansionary monetary policy as the RBI balance sheet
reflects in terms of assets. During the Covid-19 pandemic years, both fiscal and monetary
expansion gave rise to a huge rise in RBI’s assets by 30% in 2019-20, when they were `53.3
lakh crore. Both 2020-21 and 2021-22 fiscal years witnessed a slower growth, at 7% and
9.7%. The Hindu Businessline reports that RBI’s balance sheet has shrunk to ` 58.57-lakh
crore as on October 28, 2022 by 6.45%.

Table - 2

Assets of Reserve Bank of India :  (2015-16 to Oct 2022)  (in %)


Fiscal YearBankingIssueTotalChange

DepartmentDepartment Rs.Percent

Rs. lakh croreRs. lakh crorelakh crore

2015-1613.4 17.0 32.4 -

2016-1717.9 15.1 33.0 1.9

2017-1815.0 21.2 36.2 9.5

2018-1917.7 23.3 41.0 13.4

2019-2026.4 27.0 53.3 30.0

2020-2128.3 28.8 57.1 7.0

2021-2231.5 31.1 62.6 9.7

2022-2326.8 31.8 58.6 -6.4

Source : RBI Annual Report

The contraction is attributed to
 Use of foreign exchange reserves for arresting the rupee’s sharp depreciation resulting in
the decrease of foreign exchange reserves by 32%, amounting to ` 3.97-lakh crore.
 Improvement in bank deposits with RBI following the rise in CRR by 50 bps in May.
 A fall in RBI’s holding of government securities from `14.17 lakh crore on March 31,
2022 to `13.9-lakh crore by end of September, an indication that RBI is reducing its stock of
Risks facing policy makers
With the likely growing fiscal deficits by state governments and the central government in the
coming year to support growth and job creation, internal risks must be faced. They involve
public debt management. External risks would arise from rising high cost of imports of

intermediate and capital goods due to appreciation of dollar following the US Fed’s
continuing anti-inflationary stance. The interest differential between India and other
emerging market economies besides uncertainties caused by the ongoing conflict between
Russia and Ukraine, would also make the US continue as a haven. The result would be a
greater volume of capital inflows into the US would make the dollar stronger.
No doubt India had to face a triple whammy of low economic growth, high inflation, and till
recently, a weakening of the rupee vis-à-vis the dollar and other major currencies 2022. The
latest statistical data showed India’s GDP growth decreased to 6.3% in Q2 FY23, with a
significant contraction of 4% in manufacturing. The rupee has depreciated by more than 10%
since January 2022 and is hovering around ` 82 against the dollar currently.
In mid-December 2022, India’s Finance Minister told the Parliament that the country’s
foreign exchange reserves were again on the rise indicating increasing inflows through both
foreign direct investment and investment and foreign portfolio investment routes, despite the
RBI’s intervention in the foreign exchange market to stem the volatility in rupee-US dollar
movements. “As global spillovers from geo-political tensions and aggressive monetary policy
tightening across the world intensified alongside a surge in crude oil prices, the US dollar
strengthened by 7.8% in the FY (till November 30, 2022). The rupee depreciated by 6.9% in
the current FY (till November 30, 2022). It has performed better than most Asian peer
currencies, including the Chinese Renminbi (10.6%), Indonesian Rupiah (8.7%), Philippine
Peso (8.5%), South Korean Won (8.1%), Taiwanese Dollar (7.3%) during the financial year”,
said the finance minister.
India’s foreign exchange reserves rose by $11.02 billion during the week ended December 2
as the central bank accumulated nearly $8 billion through FPI flows of short-term nature. At
the current levels, reserves are reported to be adequate to cover around nine months of
projected imports for 2022-23. The latest level is $81 billion less than the peak of $642
billion in September 2021 (Table 3). The overall performance of the rupee, in terms of US
dollar, in recent months is better than that of other currencies. Table 4 shows the movement
on a month-to-month basis is the lowest in the case of India. However, the fears are still there
that India’s current account deficit (CAD) would continue to cause concerns, despite the
optimistic assurance by RBI that a rise in services exports and higher inward remittances.



Table - 3


India: Foreign Exchange

Reserves and Exchange

Rate : 2012 to 2022 -23


Calendar Foreign Exchange Exch Rate

year Reserves US$ billionRs/US$ 

2007273 41.3

2008254 43.5

2009275 48.4

2010298 45.7

2011297 46.7

2012298 53.4

2013296 58.6

2014323 61.0

2015351 64.2

2016360 67.2

2017410 65.1

2018397 68.4

2019460 70.4

2020586 74.1

2021634 73.9


* Upto November 2022


Table - 4


Changes in Exchange Rates of Emerging Market

Economies in 2022
Month to month (percent) as of September 2022



Argentina -5.7

South Africa   -4.6












Minus sign indicates depreciation of domestic currency against US$

No sign indicates appreciation of  domestic currency


The Reuter news confirms the fears that CAD widened in the July-September quarter as high
commodity prices and a weak rupee increased the country’s trade gap. The CAD was $36.40
billion in the second quarter of fiscal year 2022/23, its highest in more than a decade. As a
percentage of GDP, it was 4.4%, its highest since the June quarter of 2013.The RBI linked
the widening deficit to the increase of “the merchandise trade deficit to $83.5 billion from
$63.0 billion in Q1 2022/23 and an increase in net outgo under investment income”. In its
Financial Stability Report released after the data, it said the widened trade deficit reflected
“the impact of slowing global demand on exports, even as growth in services exports and
remittances remained robust”.
An earlier forecast by analysts outside RBI is that the rupee may fall to ` 85 a dollar soon.


Fixed exchange rate and capital controls
In these circumstances, there are some wild thoughts floating in the minds of many. One is
about going back to the fixed currency and the other about imposing capital controls, for
keeping the exchange rate constant. India is now a far more liberalised economy than what it
was under permit-license Raj with restrictions imposed on private initiative and free market
forces until the mid-1990s. Further, going back to a fixed exchange rate regime would require
linking to a major currency in terms of units of that currency. That will create more
complications as the world has moved away long ago in 20th century from the Gold
Standard much earlier (“Two episodes of US inflation”, Business Economics, Dec 1 2022).
India cannot afford to be an exception, which would prove to be disastrous. If China could do
it, it can do it because it is a one party/one man dictatorship, which is feared by the free
world, because of both economic and military power. The euro or the British pound or the
Japanese yen no longer is considered a substitute for the US dollar as all the three are under
stress themselves.
Secondly, the capital controls of the variety adopted by former Prime Minister Dr. Mahathir
bin Mohamad of Malaysia are not one hundred percent of the conventional type. Under his
leadership, the exchange rate was fixed as 3.8 ringgits to US$ 1 to handle the catastrophic
effects of the Asian Financial Crisis (1997- 1998), as Malaysia saw a huge amount of capital
leaving the country, resulting in heavy depreciation of the ringgit.
Malaysia’s capital controls were of “one way kind”: no controls on capital inflows but only
on capital outflows. That is: you can check- in but you cannot check-out, of “the roach-motel
kind.” To get rid of cockroaches, the American supermarkets had popularised an item for
their customers to help prevent them from invading the kitchen by putting poisonous bait in
an attractive box, but they cannot emerge alive once they taste the bait! Can such capital
controls of “get-in but no get-out” work in a more liberalised world after two decades? The
world, including India has seen the benefits of freer flow of FDI along with smooth transfer
of technology and skills. In the process they also helped their currencies to
appreciate/stabilise and obtain imports at cheaper costs. If one country adopts the roach-motel
methodology, other countries who do not resort to such methods, would be favoured by
overseas investors. Only, sound economic policies aiming at price stability would help in the
long run. In other words, healthy macroeconomic indicators achieved through prudential
fiscal and monetary policies over time would make the country safer and secure from global
cycles of expansion and recession.
A paper by Professor Michael Klein on Capital Controls: Gates and Walls tells us about the
difficulty with capital controls: global investors and markets are adept at finding ways around
them. He cites the case of Brazil, which imposed short term capital controls after the 2008
crisis but it was found there was no discernable effect on limiting capital flows as the internet
payment systems enabled investors to side-step traditional regulations.
One alternative is encouraging the formation of currency blocks of countries whose intra-trade is of
sizeable nature enough to settle payments in the currency of the major trading partner rather than in
US dollar. About 35 countries who have substantial trade with India have already shown interest in
the formation of a rupee block. They include neighbours such as Sri Lanka, Bangladesh, Nepal, and
Myanmar. These countries are grappling with a shortage of dollar reserves. Efforts are underway. The
central government and RBI have initiated special drives about settling bilateral trade in the Indian
currency rupee and some leading Indian commercial banks have opened special rupee accounts with
Indian and foreign exporters and importers. The latest press reports say 18 such special rupee
accounts have been opened by 11 banks, which include those of Russia. Mauritius and of Sri Lanka.
Thus overseas trade in rupee would safe guard external sector from exchange rate fluctuations.



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