India's Crisis Has Nothing To Do With Currencies

As another Delhi government collapses, business is spooked

When the currency crisis hit Southeast Asia in July, Indians thought they had nothing to worry about. The Bombay Stock Exchange and the Indian rupee remained relatively unscathed by what was unfolding just a region away. The country's economic fundamentals seemed sound, with low inflation, a small deficit, and stable interest rates. The government was making solid moves toward reform. Investors thought India could be an oasis in Asia's scorching financial turmoil.

But today, the threat to India's economy is from within. One of the only governments in Asia not to be threatened by currency instability, India's coalition under Prime Minister Inder K. Gujral collapsed on its own in late November after the Congress Party withdrew its support. To many in India, the breakdown looks like a squandered opportunity. India's Sensex 30 Index has fallen 22% since its August high. "Had political problems not arisen, this would have been an opportune period for India to have come across as a bastion of stability in Asia," says Srikant Panday, fund manager for Newton Investment Management in Madras. "This [crisis] makes us somewhat like the rest."

Businesses are worried that political uncertainty is undermining confidence and wounding the economy. Vital economic reforms will not be passed this year after all. While growth remained strong, business executives ignored the steady rise and fall of governments in Delhi. But now, industrial growth has slipped to 4.5%, down from double digits in previous years, resulting in growth estimates being revised from 7% to less than 6% this year. Banks are flush with funds--unlike their East Asian counterparts--but are wary of making bad loans. Corporate lending has slowed to a trickle, putting expansion plans on hold.

Exporters are also worried. Baba Kalyani, chairman of leading auto-parts maker Bharat Forge Ltd., fears that his Japanese buyers, including Mitsubishi Motors Corp. and Isuzu Motors Ltd., will find his axle parts increasingly expensive to import and return to Japanese suppliers that have been made newly competitive by the yen's slide. While the Indian rupee has depreciated 10%, it is still high compared with other Asian currencies' 40% devaluations. As a result, Indian exports are slowing.

With the normal workings of Parliament suspended and new elections--the third in 18 months--scheduled for February, important legislation on economic reform is being postponed. At least two dozen bills, including ones allowing share buybacks and employee stock option plans, and others liberalizing the insurance and broadcast sectors, are affected. "Everything is at a standstill," says Vipul Dalal of Alpic Securities in Bombay. "Where is the infrastructure-driven growth, the capital expansions?"

MATURITY GAP. The result is gloom in India's business community. Since the country's liberalization in 1991, many of the businesses that thrived in a protected economy have lost their competitive edge and are folding. Some that have found themselves in competition with strong global players, such as the Birlas and Tatas, have begun the painful process of restructuring. India's top corporate groups, in commodities such as cement, steel, aluminum, and chemicals, are finding that excess capacity and cheaper imports are severely cutting demand.

In addition, hot-button reforms that would benefit Indian companies, such as changes in layoff policies, will not happen as long as instability continues. Such laws "would lessen the load on the system and reward those who are efficient," says R. Ravimohan, director of CRISIL, India's premier credit-rating agency.

Infrastructure bottlenecks compound the problem and hinder investment. Ports, telephones, railways, airports, and roads are still insufficient or in poor condition. India estimates that it needs $21 billion per year over the next five years to alleviate the problem. Unable to raise funds itself, the government has not provided incentives to the private sector either. In five years, just one of eight scheduled power projects has begun producing electricity.

Even if elections next year produce a solid, long-lived government, regaining momentum for reform may take time. To win back the confidence of those who believed in India's steady progress, politicians will have to show a maturity they haven't displayed in years.