How Modi won India's
elections but paralyzed the economy
As PM stokes nationalism, backlash brews among business
elite
HENNY SENDER, Nikkei Asian Review
MUMBAI -- Since the turn of the 20th century, the Godrej family
has made bank safes. Now called Godrej Security Solutions, part of the
sprawling Godrej business empire, the company is a bellwether for the state of
the Indian economy. When banks are confident and expanding their branch
networks out into the countryside, they need safes and other security
equipment.
For the last three years, business has been slow.
"For every 100 bank safes we used to sell, we are selling 20 now,"
said Jamshyd Godrej, the company's chair and managing director.
India's banking sector, and public banks in particular,
are groaning under the weight of nonperforming loans. NPL ratios have more than
doubled over the past five years, and the debt issues have infected the immense
shadow-lending industry, causing a huge shortage of credit. A central
bank-backed plan to expand financial services to rural consumers -- which
should have been a boon to Godrej Security Solutions -- has stalled, while
the removal by the government of many bank notes from circulation has further
dampened demand.
In early March, the Reserve Bank of India took control of
Yes Bank, the country's fourth-largest lender, capping withdrawals at 50,000
rupees ($677), after the company failed to raise enough capital to reassure the
central bank that it could cover its mounting pile of bad debts.
"We don't know if demand for bank safes will ever
come back," Godrej said. "Today, our strategy is to upgrade the
security systems in remote areas where armed gangs break into the banks."
The problems in the banking sector are symptomatic of a
wider malaise in the Indian economy. Growth is at its slowest in years, and
consumption is weak. The country is gripped by social unrest; in February, the
government's persistent attempts to disenfranchise and marginalize its Muslim
citizens boiled over into violence, killing at least 50 people in Delhi alone.
The political and economic crises are tightly interwoven.
When Narendra Modi became prime minister at the head of the Bharatiya Janata
Party in 2014, he promised to do for India what he did for his home state of
Gujarat, where he had presided over an economic growth spurt. He would revive
manufacturing, modernize the financial sector and end the crony capitalism
associated with the Congress Party, which had ruled India for most of the
post-independence period.
That boom failed to materialize during his first term,
which was marred by a botched rollout of a sales tax and the cancellation of
most bank notes -- which, in cash-centric India, hit particularly hard.
Regardless, he was reelected with a huge majority in 2019.
What Modi did carry over from his time in Gujarat, though,
was intercommunity violence. In 2002, while Modi ran the state, at least 1,000
people died in clashes between Hindus and Muslims.
Moreover, instead of using its mandate to tackle the
mounting economic challenges, Modi's government has doubled down on Hindutva,
its populist, Hindu nationalist agenda. Backed by the Rashtriya Swayamsevak
Sangh, a Hindu ultranationalist group seen as an ideological driving force
behind Hindutva, it has revoked Jammu and Kashmir's autonomous status, changed
the country's citizenship laws to deny recognition to Muslim immigrants from
neighboring countries, and tried to enforce Hinduism as central to India's
values and identity. Almost all of the government's political capital has been
thrown into this massive social project. Economic reform has fallen by the
wayside.
"Prime Minister Modi won the election," said an
executive at a Mumbai venture capital fund. "But he lost the
economy."
Boom to bust
The signs of India's economic decay are visible in the
commercial hub of Mumbai. Cranes atop the skeletons of residential towers have
been stationary for months, as developers struggle to win credit in the face of
lackluster demand.
In the countryside are similar signs of suspended
activity. Demand for big-ticket purchases such as tractors has softened, while
sales of even the cheapest everyday items have been weak. When Gautam Sharma,
head of Nissin Foods' Indian operations, visits local
shops in rural India to gauge demand for everything from his own instant
noodles to individual sachets of shampoo, he says he is stunned by the lack of
appetite.
"People consume when they have faith in the future,
but the government has destroyed that faith," Sharma said. "People
aren't consuming because they fear the future. There is an atmosphere of
mistrust."
From automobiles to residential property, Indian consumers
are holding back on purchases as they wait out the slump. Car sales hit their
lowest-ever level in the third quarter of 2019. Tata Motors, one of the country's largest
automakers, reported a 30% decline in sales between April and December. Vehicle
production fell more than 13% in 2019. It is likely to slump further in 2020,
since many components are imported from China.
Confidence has all but disappeared. Private investment as
a share of gross domestic product has slipped to its lowest level in years,
while weakness in manufacturing and construction has been the heaviest drag on
growth, according to data from consultancy TS Lombard. A bump in investment in
the third quarter of the fiscal year was down to two transactions: Reliance Industries' expansion of its Jamnagar
oil refinery, and airline IndiGo's order for 300 new planes.
Nor has anything been helped by the Modi government's
string of economic policy debacles. In November 2016, the BJP government
abruptly canceled almost 90% of the cash in circulation -- a move described as
both an effort to eliminate "black money" and corruption, and a boon
for ordinary Indians. "This step will strengthen the hands of the common
man in the fight against corruption, black money and fake currency," Modi
vowed at the time.
But in an economy as cash-reliant as India's, pulling
money from the system saw transactions slow dramatically. Daily wages at small
businesses -- barbers, weavers and small-scale farmers -- all dropped, on
average, from 400 rupees a day to a mere 150. And a side effect of this drastic
measure saw opposition parties deprived of funds to fight state elections in
Uttar Pradesh, the most populous area in the country.
Demonetization was followed in June 2017 by the botched
execution of the goods and services tax. A praiseworthy concept, it was marred
by an overly complicated, constantly shifting formula for calculating the taxes
incurred, and imposed heavy costs on smaller enterprises that could ill afford
the expense.
The final blow came in the fall of 2018, with the
implosion of Infrastructure Leasing & Financial Services, a triple-A rated
nonbank lender, which gutted the credit market. IL&FS and other nonbanks
had become important sources of credit after traditional banks, struggling
under the weight of bad debts, stopped lending to companies and households.
Instead, they loaned to nonbanks, who on-lent the money at a higher rate. Over
the past five years, the ratio of banks' soured loans has jumped from around 4%
to more than 9%.
The outlook is bleak enough that several credit rating
agencies have downgraded India to a precarious status one step above junk. A
further downgrade would put yet more pressure on an ailing economy, weaken the
rupee, raise the cost of capital and trigger even greater systemic stress.
"The pressure is building up. Fiscal problems will
escalate, and the deficit could easily total 10% of GDP," one prominent
economist said. "And while the level of foreign exchange reserves is now
approaching $470 billion, that amount can rapidly disappear."
Despite massive stimulus measures -- including a steep cut
in the corporate tax rate from 30% to 22%, and $15 billion in new spending on
agriculture and infrastructure -- analysts have found the response underwhelming.
"The quality of government spending seems to have
deteriorated," said UBS economists in a recent note, remarking that recent
January budget plans "lacked the growth/sentiment-boosting measures that
the markets were looking for." Underinvestment in infrastructure, they
added, has held back longer-term attempts to build up the manufacturing sector
-- the so-called Make in India campaign, which was a pillar of Modi's economic
strategy.
A common refrain among businesses is that Make in India is
emblematic of the opportunities missed under the BJP. While the party's pledges
to turn India into a $5 trillion economy and a manufacturing powerhouse to
match China were always somewhat far-fetched, the past few years could have
been a chance for the country to muscle its way into global supply chains. The
trade friction between the U.S. and China has forced many companies to
reposition, which could have jolted Make In India to life.
There have been some limited successes, with cases of
international companies replacing imported components with locally made ones,
or expanding their assembly operations to serve the local market. Apple
assembles some lower-end iPhones in India and began assembling newer iPhone XRs
in Chennai in October 2019. A joint venture between Hitachi and Johnson
Controls, which assembles air conditioners in Gujarat, is reducing the number
of compressors it brings in from China. Samsung assembles some handsets in Noida,
outside Delhi.
"It was just a war cry at first," said Neelkanth
Mishra, an analyst for Credit Suisse in Mumbai. "But it is too early to
say it is a complete flop. It needs to happen over a fair bit of time. We are
today where China was in the early '90s."
However, even Make in India has become caught up in
nationalist populism. Encouraged by the more conservative elements in the
party, Modi's government has raised tariffs on many imports from China. Since
2018, duties have doubled on Chinese goods like footwear, toys, beauty
products, electronics and furniture. Last year, Modi pulled India out of the
Regional Comprehensive Economic Partnership, an attempt to create a pan-Asian
trading bloc that would have spanned half the world's population. India's main
concern was reportedly that the country's manufacturing sector would be
uncompetitive, and the agreement would flood the market with imports.
"Make in India was originally about making the
country an export hub," said Priyanka Kishore, head of India and Southeast
Asia at Oxford Economics. "But recently the government has used it as an
excuse for protectionism. The import tariffs that this government has imposed
go against the spirit of what Make in India was supposed to be. It is a lost
cause."
Breaking point
In the immediate term, the government urgently needs to
find ways to turn around the pessimism that has infected almost all parts of
the Indian economy. But confidence, once lost, is hard to recover.
"Today, the biggest problem in India is the lack of
confidence domestically," Kishore added. "The question in my mind is,
when does the patience run out?"
There are signs that even in India's famously pragmatic
business community patience is wearing thin. Many bought into the BJP's
promises to clean up politics but are now losing faith.
"Modi's promise of minimal government and maximum
governance hasn't happened," said the founder of one major hospitality
business in Delhi.
"This government thinks a cocktail of religion and
politics will help them stay in office," said the head of a local
financial company in Mumbai. "They don't care about [the economy] or
minorities or integrity."
In private, disenchantment with the government's
prioritization of ideology and social engineering has become widespread. But
few people are willing to speak up, due to a justifiable fear of becoming
sidelined.
In India, where the nexus between politicians, bureaucrats
and businesspeople is powerful, being in favor matters. In 2014, investors
arbitraged the political divide by selling DLF -- a property developer with
links to the Congress Party -- and buying Adani, founded by Modi ally Gautam
Adani. Modi regularly borrowed Adani's private plane to fly to election rallies
before becoming prime minister.
During Modi's first term, Deepak Parekh, chairman of HDFC
group and widely considered the country's most respected banker, publicly
reminded the prime minister that he was elected to implement economic reforms,
rather than his Hindutva agenda. Parekh has been frozen out of business trips and
meetings with the prime minister ever since.
At a newspaper awards ceremony in Mumbai in mid-December,
Rahul Bajaj, then chairman of Bajaj Auto, stood up and delivered a nearly five-minute
lecture to Amit Shah, the home minister and Modi's closest associate, and two
other cabinet ministers, referring to the lack of openness on the part of the
government to criticism. Minister of Finance Nirmala Sitharaman promptly
described his observations as "anti-nationalist."
As the Hindustan Times subsequently wrote:
"Government ministers and government-aligned public voices were quick to
attack Bajaj -- thereby validating Bajaj's concerns."
Under Modi, the BJP has aggressively targeted media
outlets, many of which are owned by large conglomerates that rely on the
government for business. A number of high-profile critics have lost their jobs
at newspapers, and journalists who do not toe the line find their access to
government officials cut off.
The government has also been highly selective in its
handing out of TV licenses. Republic TV, part-owned by a BJP lawmaker, Rajeev
Chandrasekhar, sailed through the licensing process to launch in 2017. Media
entrepreneur Raghav Bahl, a prominent critic of Modi, has been waiting three
years to launch a channel in partnership with Bloomberg.
The general despondency over the situation seems largely
confined to domestic investors, at least for now. "Foreigners see the
government's social agenda as an internal matter," said Oxford Economics'
Kishore. "The big negative wave of sentiment is in India, not outside
India. ... It is puzzling that there is so much patience with a government
which was originally elected with an economic mandate. I ask why, and they say,
'India is still growing. We can ignore certain factors.'"
Similarly, Ridham Desai, head of research at Morgan
Stanley India, said that he has not had a single call from foreign investors
since December, when the introduction of Modi's citizenship act triggered
protests.
Where foreign-backed projects have stalled, it has usually
been down to local political issues. Korean carmaker Kia Motors had a dispute with the state
government of Andhra Pradesh, after the authorities changed various incentives
on hiring and power supply. Kia disputes accounts of a disagreement with the
government. A spokesperson told Nikkei: "Kia Motors India [does] not have
any issues with the Andhra Government".
In Maharashtra, a 1.1 trillion rupee ($14.9 billion)
segment of a Japanese government-backed high-speed railway linking Mumbai and
Ahmedabad in Gujarat is in doubt, after the state government declaredit would
review the project.
Some international investors, however, are also becoming
nervous about India's tilt toward bigotry and authoritarianism. One investor,
currently mulling a bid for Yes Bank, told the Nikkei Asian Review: "The
[Rashtriya Swayamsevak Sangh] policies the government is adopting are
disconcerting."
One Singapore-based Indian tech investor said he was
positive towards India over the long term, but had "concerns" for the
near future. "You can only ignore the [macroeconomic] and social
[factors] so long."
Backlash
No government can afford to ignore the economy entirely,
however, and there are signs that a backlash against the BJP is building.
During the campaign leading up to Delhi's elections on
Feb. 8, it was hard to believe that the two top contenders were taking part in
the same contest. During the campaign, the BJP leaned into its anti-Muslim
rhetoric, branding women who led protests against its citizenship law as
"terrorists" and calling the Muslim-majority suburb of Shaheen Bagh a
"breeding ground for suicide bombers." The incumbent Aam Aadmi party,
led by Arvind Kejriwal, emphasized its record of improving basic services,
particularly education. Aam won with an overwhelming majority.
"The divisive election campaign illustrates how
identity politics can overwhelm the service delivery message," said
Amitabh Dubey, political analyst for research company TS Lombard in Delhi.
After Modi's BJP won its massive mandate last year, some
pundits said India had all but become a one-party state. But the BJP has since
lost local elections in Maharashtra, where Mumbai is located, and the smaller
state of Jharkhand, as well as Delhi. The new citizenship bill has provoked
huge protests across the country that are only intensifying.
The rising dissent could further dampen confidence and
give policymakers yet another political problem to distract them from tackling
the economy, analysts warned.
"This development threatens to divert political
attention away from the much-needed policy focus on the economic revival,"
TS Lombard analyst Shumita Sharma Deveshwar said.
That lack of focus may be at play in the delayed bailout
of Yes Bank, whose problems festered until they became impossible to ignore.
The RBI has also imposed a monthlong moratorium on withdrawals from the lender,
doing so a day after one senior banker warned the central bank that there was
likely to be a run on Yes, according to sources with knowledge of the
situation.
"RBI and the government should have acted months
ago," said Sanjay Bhandarker, who until recently headed the restructuring
practice for Rothschild in Mumbai. "But they lack the competence. At some
point, there will be a huge impact on the economy because of their lack of
expertise."
"India
could soon have the worst aspects of authoritarianism, without any of the
economic efficiencies"
A Mumbai-based lawyer
The government could spend more money on infrastructure or
upgrading services, particularly education and housing. Rather than do that,
analysts and businesspeople fear the BJP will double down on its Hindutva
agenda.
"Hindutva is a diversion from the economic woes and
the lack of a real agenda to tackle them," said the local Indian head of
one major international investment fund in Mumbai.
That could lead to more division, more unrest and quite
probably a more aggressive crackdown. As one Mumbai-based lawyer said:
"India could soon have the worst aspects of authoritarianism, without any
of the economic efficiencies."
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