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Commuters hang by doors of a crowded local train in Mumbai, India, Tuesday, July 8, 2014. India's new rail minister Sadananda Gowda on Tuesday proposed allowing foreign investment to modernize the country's cash-strapped state railways. India has one of the world's largest railways, which transports 23 million passengers a day. Indian Railways is one of the world's biggest employers with more than 1.3 million employees. The network lost 300 billion rupees ($5 billion) last year. (AP Photo/Rajanish Kakade)
Budget to test new government’s mettle in India
Economy » Can Prime Minister Modi deliver on promises to revive stalled economic growth?
First Published Jul 09 2014 09:27 am • Last Updated Jul 09 2014 09:27 am

Mumbai, India • India’s new government presents its inaugural budget this week in the first substantive test of whether Prime Minister Narendra Modi will deliver on ambitious promises to revive stalled economic growth.

Modi’s Hindu nationalist Bharatiya Janata Party swept into power in May after the most decisive election victory India has witnessed in three decades, ousting the long-dominant Congress party. Voters were fed up with Congress’ failure to curb runaway inflation and the wilting of growth rates to below 5 percent.

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The prime minister has warned "bitter medicine" is needed to heal Asia’s third-largest economy and improve battered government finances. Expectations of bold policies have been sky high, with the Sensex stock index in Mumbai hitting a series of record highs in the past several weeks. But the prospect of reduced harvests this year due to weak monsoon rains may forestall immediate cuts to fiscally ruinous subsidies for fuel, food and fertilizer.

"I don’t think we are going to see something that is completely path-breaking and transformational," said Anjalika Bardalai, an India analyst for the Eurasia Group. "But I do think there will be enough in the budget that is going to be perceived as business friendly and good for the economy."

India’s economic growth has slowed to less than 5 percent for the last two years after a decade of expanding by an average of 8 percent, which is the minimum the government says is necessary to provide jobs for the 13 million young Indians who enter the workforce each year.

Big spending on subsidies has limited the government’s ability to use its budget to make productive investments that could boost the economy’s productivity in the long run. A chronic current account deficit has contributed to weakness in India’s currency, worsening consumer inflation that has touched double digits in the last year.

The BJP campaign promised pro-business policies similar to those in the Gujarat state where Modi was chief minister for years and focused on clearing obstacles to building roads and other infrastructure and offering incentives for large-scale investment.

Critics accuse Modi of promoting a more free-wheeling capitalism with less of a social safety net, but the overwhelming victory in May indicated Indian voters, especially the young, are more concerned with the faltering economy.

The election result was a "pretty clear vote" for more jobs and other changes to get the economy moving again, said Glenn Levine, a senior economist for Moody’s Analytics. "Modi should and appears to be utilizing this honeymoon period to push through some changes."

Finance Minister Arun Jaitley’s budget speech Thursday may go beyond traditional subjects like spending priorities and deficit-reduction targets and also touch on at least broad outlines of policies such as a more selling off state-owned industries, tax reform and allowing more foreign investment in key industries.

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Government steel, coal and petroleum companies are seen as prime targets for sale, which would replenish the government’s coffers and help to make inefficient industries more productive. Jaitley could also announce increases in caps on foreign direct investment in areas including defense and e-commerce.

Still, inflation and the high price of oil, India’s biggest import, will make it difficult to reduce the fiscal deficit that is a both a symptom and a cause of many of the country’s economy woes.

Many of the measures Modi’s party sees as ultimately necessary to curb the deficit are likely to be deeply unpopular.

Tens of millions of Indians have become accustomed to subsidized food, fuel and fertilizer that cost the government some $40 billion per year. Modi’s party would like to redirect that spending to areas such as building roads, railways and power plants, but any cut in social spending could provoke a backlash.

One of the Modi government’s first acts when it took office was to raise rail passenger fares, an unpopular move that was partially rolled back after a public outcry.

The back down demonstrated that cuts to entitlements will be deeply contentious and unpopular, said Bardalai, the Eurasia Group analyst.

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