Singh Hatches India Reforms of Decade as Growth Now or Die

Bungalow Meeting Spurred Indian Overhaul Now Facing Biggest Test
A construction worker stands on the site of a housing block in Sector 105 of Noida, in Uttar Pradesh, India. Growth in India is approaching its weakest pace in three years. Photographer: Sanjit Das/Bloomberg

Sitting in the study of the prime ministerial bungalow in New Delhi, surrounded by manicured lawns and palm trees, Indian leader Manmohan Singh and his soon-to-be finance minister Palaniappan Chidambaram pored over plans late into the evening to stem a growing sense of crisis.

Singh, the 80-year-old soft-spoken architect of the country’s economic opening two decades earlier, and Chidambaram, the 67-year-old Harvard University-educated lawyer who enjoyed the trust of ruling party chief Sonia Gandhi, saw the window closing to reverse a growth slump, according to people briefed on the talks. Their recipe: a combination of spending cuts and foreign-investment liberalization that amounts to the biggest policy overhaul in a decade.

With growth approaching its weakest pace in three years, the rupee sliding to a record low, one of the nation’s largest private air carriers teetering toward bankruptcy, and elections due within 18 months, the ruling Congress party was ready to back steps opposed by coalition allies, ministers and party leaders said on condition of anonymity because the discussions were private. Their prescription for resetting India’s economy will face its first test when parliament reconvenes this month.

“The government has won the first battle but it hasn’t won the war,” said Satish Misra, a political analyst at the Observer Research Foundation in New Delhi who has been following Indian politics for three decades. “In the next session of parliament the opposition will start its fight-back with all its sound and fury.”

No-Confidence Vote

To bolster the government before the legislative debates, Singh on Oct. 28 replaced about a third of his ministers, drafting in younger lawmakers as he aimed to repair the reputation of an administration tainted by corruption scandals over the past two years.

Opposition parties are threatening a no-confidence vote when parliament meets for the winter session scheduled to begin on Nov. 22. Two smaller regional parties, in protest over the changes, have bolted the Congress-led coalition, which was already reliant on outside support to survive.

Mayawati, the leader of the fourth-largest party in India’s parliament, declined to say last month whether her Bahujan Samaj Party would continue to back the government. The Samajwadi Party, the third largest in parliament, has signaled it will continue outside support for the coalition while opposing the economic overhaul.

First Barometer

As the government tries to navigate the next session of parliament, two provincial elections may provide the first barometer of how the public views Congress’ bid to reassert authority ahead of national elections. Voters will go to the polls in early November in Himachal Pradesh where Congress is hoping to wrest power from the Bharatiya Janata Party, the main federal opposition party.

In December, elections will be held in Gujarat where Congress is aiming to weaken the hold of the BJP. Support for the BJP administration led by Chief Minister Narendra Modi was almost 50 percent, while backing for Congress was at 36 percent, according to an opinion poll published yesterday that was conducted by the Centre for the Study of Developing Societies for the CNN-IBN television channel. No margin of error was given for the survey of 3,658 voters in the state.

The government is not backing down, saying it will enact further changes beyond those already announced in the retailing, insurance and pension industries, and in energy markets.

Next Moves

Chidambaram, who has served two previous terms as finance minister, said in an Oct. 12 interview with Bloomberg Television that the government is planning further measures to open up the economy.

“We intend to take some more steps on the capital market side, some more steps on insurance, banking and some more steps on the infrastructure side,” he said. “These are under preparation.”

The Oct. 4 announcement on foreign investment in insurance and pensions by Singh, who had been branded an “underachiever” on the July 16 cover of Time magazine and a “tragic figure” in a Sept. 4 Washington Post article, propelled Indian shares to their highest close in 17 months and the rupee to its strongest level against the dollar in more than five months.

Partnership Rekindled

In the year prior to the policy revamp, the rupee had declined more than 14 percent. Since the campaign began with the Sept. 13 announcement on increased diesel tariffs, it’s been the second best-performing currency among emerging market nations tracked by Bloomberg, gaining 3 percent.

Chidambaram’s move from the Home Ministry, where he had taken charge in the aftermath of the 2008 Mumbai terrorist attacks to oversee an overhaul of internal security, reinstated a partnership with Singh that presided over a record period of 9 percent annual growth from 2004 to 2008.

“Chidambaram by becoming finance minister tipped the balance in favor of reforms,” said Rasheed Kidwai, author of the book “Sonia: A Biography.” “They might have happened anyway, but he reinforced Singh in arguing they were necessary right now.”

It may have also helped overcome fears in the ruling party, in particular concerns held by Sonia Gandhi that the government might collapse if its allies were pushed to the wall, said Kidwai.

‘Trusted Counsel’

Chidambaram is a “trusted counsel of Sonia Gandhi,” with their relationship dating back three decades to when he was an adviser to her husband, the late former Prime Minister Rajiv Gandhi, and later when he joined the board of a foundation set up in Rajiv’s name, said Kidwai. “Chidambaram is able to frame the arguments in a way that Sonia will understand -- that if you have growth then you will have more money for social spending.”

Singh unveiled his policymaking drive in September after almost two years of legislative paralysis, and it included moves to allow foreign investment in multibrand retail outlets, aviation, broadcasting and power exchanges, and the decision to raise diesel prices to stem a fiscal deficit.

In the second wave of policy changes at the start of October, the government announced plans to allow overseas companies to take larger stakes in insurance companies and for the first time to permit foreign investment in pension firms. Unlike the moves in retail and aviation, the changes in the pension and insurance industries require legislation that will have to be passed in parliament.

‘Hard Decisions’

Singh said Sept. 21 in a speech to the nation that “the time has come for hard decisions” and that the new measures would spur growth, creating millions of jobs and garnering revenue for spending on health and education. To press its case, the government published a series of full-page advertisements in the country’s best-selling newspapers, arguing that the decision to allow foreign retail chains like Wal-Mart Stores Inc. to hold a majority stake in ventures would benefit farmers and consumers.

The government’s policy efforts have reversed a trend of falling inflows of overseas money, after foreign direct investment fell 33 percent in the first six months of this year. Foreign capital entering India, mostly in the form of purchases of the nation’s equities, surged $5.3 billion since Singh began to roll out his policy changes, taking the year’s total inflows to $18.1 billion.

Upper Hand

“It looks like the reformers have finally got the upper hand,” said Sam Mahtani, who oversees about $5 billion of assets as director of emerging markets at F&C Asset Management Plc in London. “The way out for India is growth, if they can get back to seven or eight percent growth then you grow your way out of the problems. It looks like they really want to press ahead with reforms now. In a year or two years’ time, we could be saying this was a turning point.”

India, Asia’s third-largest economy, expanded 5.5 percent in the three months through June from a year earlier, close to the 5.3 percent pace of the previous quarter that was a three-year low. The central bank cut lenders’ reserve requirements on Oct. 30 in a move that supports the government’s policy revamp.

The BSE India Sensitive Index, or Sensex, has climbed 2.7 percent since mid-September, when the overhaul was first announced. The benchmark has gained 19 percent this year, the best performance among the BRIC countries, which also include Brazil, Russia and China.

Singh’s U-Turn

The last time Singh’s government announced a round of policy changes it ended up backtracking under pressure from its coalition allies. In December, the prime minister shelved plans to allow foreign direct investment in pension funds and the multibrand retail industry.

Noting the political challenges facing Singh’s government, Standard and Poor’s said Oct. 10 that India may lose its investment-grade credit rating within the next 24 months if economic growth slows and political opposition to policy overhauls increases. Being tagged with junk status would deprive India’s debt of investment by funds that avoid high-risk, high-yield securities.

The country faces at least a one-in-three possibility of a downgrade, S&P analysts Takahira Ogawa and Elena Okorochenko said in a note, reiterating comments made in April when the rating agency lowered India’s outlook. S&P cut the country’s sovereign credit outlook to negative, a step away from non-investment grade rating and the lowest in the BRIC group.

Parliament Headache

With some of its governing partners having quit, the 11-party Congress-led coalition now has 247 members in the 545-seat lower house of parliament. That means it needs the support of lawmakers from outside the coalition to pass legislation such as changes to allow foreign investment in pensions and insurance.

While Indian opinion polls face a series of sampling difficulties that can affect their accuracy, such as the diverse caste, regional and linguistic makeup of the electorate, a poll published in August by Nielsen Holdings NV and India Today magazine forecast that a BJP-led bloc would win the most seats in an election.

According to the survey, Singh’s coalition will win 181 seats, 78 fewer than it secured in the May 2009 election, while the BJP bloc of parties may win as many as 205. The poll, conducted in July in 19 states, had 16,000 respondents and no margin of error was given.

“We still have to bear in mind that they have a political system they have to work with and there is a risk that they could lose power and have to call fresh elections,” Mahtani said, referring to Congress’ tenuous standing in parliament. “It is a fairly fine balancing act. The worst case scenario is they have to backtrack.”

Poll Rout

Singh and Chidambaram are betting that a number of parties outside the ruling coalition don’t want to go to elections now because they will lose seats and so won’t bring the government down over the policy moves.

Mayawati’s BSP was routed in regional elections in March in Uttar Pradesh, India’s most populous state, and may not want to face voters again soon. Meantime, the BJP has yet to decide who will lead the party into the next election and what direction it should take.

The role played by Chidambaram in winning party support for the policy changes has bolstered his standing and may make him a contender to succeed Singh in the top job, said B.G. Verghese, an analyst with the Centre for Policy Research in New Delhi, who is a former aide to ex-Prime Minister Indira Gandhi and has known Singh for 30 years.

Fizzle Out

“The recent reforms have certainly given him a leg up and he will certainly be considered for the post because he is one of the brightest people in the party,” said Verghese. The problem is “he has very firm views, there is an arrogance about him, and his political base is very narrow,” he said.

Chidambaram said in the Oct. 12 interview that it was too early to discuss who will be the next prime minister when asked if he considers himself a candidate for the position.

“We will take a call on the leadership when we have to elect a leader,” he said. “But at the moment, I have a job at hand and let me do that job without being distracted.”

The government’s ability to persist with the policy overhaul hatched by Singh and Chidambaram in their bungalow meetings may determine whether Congress, the party that has dominated Indian politics since independence, remains the country’s leading political force.

The government “may have acted too late to restore growth and their own credibility,” said R.K. Gupta, the New Delhi-based managing director of Taurus Asset Management Ltd., which manages $672 million in assets. “For a sustained economic recovery the government needs to keep pushing ahead with reforms, they can’t just let them fizzle out.”

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