Paran Balakrishnan: Fired-up India galloping to crisis

Is history about to repeat itself as economic farce? That's the multi-billion rupee question being tossed about nervously by policymakers and economists in India.

Will over-cautious mandarins bring the speeding economy to a sudden halt, throwing all the passengers to the floor as they step on the brakes?

Let's have a small recap. Back in 1995 the Indian economy was shooting up to new heights.

Growth had climbed steadily and touched an unheard of 7.5 per cent. Businessmen were bravely seizing the new opportunities and drawing up ambitious expansion plans.

All systems were go and it looked as if nothing could stop the Indian juggernaut (remember that the word juggernaut is derived from the giant Jagannath temple chariot).

A key figure during that era - some accuse him of being the villain of the piece - was, amazingly enough, Prime Minister Manmohan Singh. The ace economist was the finance minister in those days.

The Congress-led Government was two years away from an election and Singh wanted to stamp out any threat of inflation as polling season neared.

Singh - with the Reserve Bank of India - was responsible for a tight money policy that doused the red-hot growth figures. India staggered back from that blow only after three years.

Now the signals are getting uncomfortably similar for anyone who lived through the economic dog days of the mid-90s.

Last week the Reserve Bank raised interest rates by another quarter per cent, taking them to a four-year high, and signalled that it was ready to take tougher action if needed to stop the threat of inflation that is now nudging 5 per cent.

But 2006 is very different from 1995. The global economy has been on a roll and India has been tagging along happily for the ride. What's more, affluence has reached a sizeable chunk of the Indian middle class.

They now earn enough - which they didn't in the '90s - to take hefty mortgages and are buying everything from cars and two-wheelers to televisions and microwave ovens on credit. That's powering a real estate boom and has created a huge appetite for consumer goodies.

Nevertheless, there are questions that can't yet be answered. When will the effect of higher oil prices seep through to the economy? What will happen if interest rates are jacked up to fight inflation? And now that the stock market has come off the boil, will that upset the growth plans of businessmen planning to raise money to fuel their mega-ambitions?

Remember that the Indian economy, unlike the Chinese powerhouse, has always been driven by its own domestic market. But that takes us to the first question mark.

What will happen to acquisitive middle-class buyers when interest rates start to climb? Will they stop taking mortgages and push the brake pedal when it comes to buying vehicles?

Nobody knows the answer to that question because this is the first credit boom in this country. There are no statistics to show how consumers will react when rates start to climb.

In a First World economy such a situation would be unthinkable, but this is the wild and wonderful Third World where growth is fast but risk abounds.

There could be a squeeze on consumer spending, says Marut Sengupta, head, economic policy, Confederation of Indian Industry (CII), the country's leading industry association.

Any slowdown will be felt throughout the system. The real estate sector - powered by a boom in home, office and mall construction - zoomed 12 per cent in the fourth quarter of 2005-06. And the auto industry is firmly in the fast lane and has grown by 57 per cent between 2000 and 2004, says the Society of Indian Automobile Manufacturers. Cheap credit has also resulted in consumer durables becoming one of the fastest growing sectors in the economy.

Are there any signs of a slowdown? The answer has to be a qualified yes. The CII says the service sector is zipping along at a splendid speed. But the rising cost of raw materials is squeezing profits in some manufacturing companies.

Add to that the Reserve Bank's defensive action that will make credit costlier. Tight liquidity coupled with rising raw materials costs could create a tough situation for some companies.

What about the markets which are now in see-saw mode? The stock market has dropped by about 2000 points since its peak in early May but it is still perched higher than a year ago. But nobody is placing big bets that the markets will climb steeply this year.

That means entrepreneurs who want to raise capital and venture capitalists who want out may have to delay that fund-raising journey to the market.

Anyone who nurtured hopes about going to the market has seen what happened to the high-flying, low-cost airline Deccan Air in June. The stock lost altitude by the first evening and is now less than half its opening price.

None of this points conclusively up or down. The high-tech sector is still picking up new business and expanding at an astonishing pace. And the cranes are still busy as the developers slap brick and mortar together.

Even the sickly agriculture sector, which wilted throughout the 90s, is doing better than last year.

But the challenge is to keep growth at 8 per cent and above and to ensure that it doesn't slip below that magic level (a group of top industrialists met the prime minister a month ago and presented him a plan on how to take economic growth to 12 per cent).

An 8 per cent growth rate will need careful calibration from the Government and the Reserve Bank, which is steered by an extremely cautious governor, Y. Venugopal Reddy.

A lot will, of course, depend on what happens on foreign shores. But in the past few weeks central banks globally have been tightening their controls and a feeling of nervousness has been spreading.

Can the Indian economy stay on course without slowing? Let's just say that the lights have suddenly turned amber.