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Economic

Survey 2016-

Government of India Ministry of Finance Department of Economic Affairs Economic Division January, 2017

5 Fiscal Framework: The World is Changing, Should India Change Too? 105 Introduction 106 India and the World: Flows 108 India and the World: Stocks 111 Conclusion

6 Fiscal Rules: Lessons from the States 113 Introduction 115 Summary of the Fiscal Responsibility Legislation 115 Assessment Methodology 117 Impact on Deficits 119 Off-Budget Expenditure 120 Budget Process 121 Assessment 122 Lessons for Future Fiscal Rules

7 Clothes and Shoes: Can India Reclaim Low Skill Manufacturing? 128 Introduction 128 Why Clothes and Shoes? 132 Challenges 136 Policy Response and Conclusions

8 Review of Economic Developments 140 Introduction 142 Fiscal Developments 144 Prices 147 Monetary Management and Financial Intermediation 151 India's Merchandise Trade 152 Balance of Payments 154 External Debt 155 Outlook for the Economy for the Year 2017- 155 Agriculture and Food Management 158 Industrial, Corporate and Infrastructure Sectors 159 Services Sector 160 Social Infrastructure, Employment and Human Development 165 Climate Change

9 Universal Basic Income: A Conversation With and Within the Mahatma 173 Introduction 173 The Conceptual/Philosophical Case for UBI 174 The Conceptual Case against UBI 175 Why Universalize? 182 How Can a UBI Overcome These Issues? 182 Insurance against Risk and Psychological Benefits 183 Improved Financial Inclusion 186 Temptation Goods: Would a UBI Promote Vice? 187 Moral Hazard: Would a UBI Reduce Labour Supply? 187 The Way Forward 195 Conclusions

SECTION III: THE PERSISTENT

10 Income, Health and Fertility: Convergence Puzzles 213 Introduction 216 Finding 1: Income/Consumption Divergence Within India 220 Finding 2: Health Convergence within India with Room for Improvement against International Standard 223 Finding 3: Fertility: Exceptional Performance 223 Conclusions

11 One Economic India: For Goods and in the Eyes of the Constitution 231 Introduction 233 Section 1: One India: Internal Trade in Goods 233 Does India Trade More Than Other Countries? 235 Relationship Between Interstate Trade and Manufacturing 235 Patterns of Interstate Trade: Arms-length Trade 237 Patterns of Interstate Trade: Intrafirm trade 239 Is Indian Interstate Trade Unusual? Formal Evidence from a Gravity Model 240 Explaining the puzzle: Why Does India Trade so Much? 242 Conclusion 243 Section 2: One India: Before the Law 243 Introduction 243 India's Constitutional Provisions and Jurisprudence 245 Provisions in Other Countries 246 Comparable WTO Law 248 Conclusion

12 India on the Move and Churning: New Evidence 264 Introduction and Main Findings 266 Baseline Census Data: Migration Levels and Growth 267 Re-estimating Migration: Two Time Periods, Two Data Sources, Two New Approaches 277 Conclusion

13 The 'Other Indias': Two Analytical Narratives (Redistributive and Natural Resources) on States' Development 285 Introduction 286 Impact of Redistributive Resources 287 Redistributive Resource Transfers: Evidence from Indian States 292 Impact of Natural Resources 292 Natural Resources and Evidence from Indian States 295 Conclusion

14 From Competitive Federalism to Competitive Sub-Federalism: Cities as Dynamos 300 Introduction 301 Background 302 Key Challenges 306 Lessons from Across India 309 Mobilising Resources 314 Conclusion

NOTES The following figures/units are used in the Economic Survey: BCM billion cubic metres BU billion units MT million tonnes lakh 1,00, million 10 lakh crore 10 million

kg kilogram ha hectare Bbl billion barrels per litre billion 1,000 million/100 crore trillion 1,000 billion/100,000 crore

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Acknowledgements The Economic Survey is a result of teamwork and collaboration. Contributions to the Survey from the Economic Division and Office of CEA include: Archana Mathur, H.A.C. Prasad, A. S. Sachdeva, Rohit K. Parmar, G.S. Negi, Rajasree Ray, Antony Cyriac, R. Sathish, P.K. Abdul Kareem, Ashutosh Raravikar, Nikhila Menon, Shweta, Mrityunjay Jha, Aakanksha Arora, Rabi Ranjan, Dipak Kumar Das, Vijay Kumar, M. Rahul, Abhishek Anand, Gaurav Jha, Kanika Wadhawan, Sonal Ramesh, Vijay Kumar Mann, Riyaz Ahmad Khan, Shobeendra Akkayi, Salam Shyamsunder Singh, Md. Aftab Alam, Pradyut Kumar Pyne, Narendra Jena, Sanjay Kumar Das, Parveen Jain, Subhash Chand, Rajesh Sharma, Amit Kumar Kesarwani, Mritunjay Kumar, Gayathri Ganesh, Tejaswi Velayudhan, Rangeet Ghosh, Josh Felman, Justin Sandefur, Dev Patel, Rohit Lamba, Siddharth Eapen George, Sutirtha Roy, Shoumitro Chatterjee, Sid Ravinutala, Amrit Amirapu, M R Sharan, Parth Khare, Boban Paul, Ananya Kotia, Navneeraj Sharma, Kapil Patidar and Syed Zubair Husain Noqvi. The Survey has greatly benefitted from the comments and insights of the Hon'ble Finance Minister Shri Arun Jaitley, who also authors a section in the Survey, possibly the first such contribution by a Finance Minister. The Survey also sincerely acknowledges the comments and inputs from the other Hon'ble Ministers including Shri M. Venkaiah Naidu, Shri Suresh Prabhu, Shri Ramvilas Paswan, Shri Ananth Kumar, Shri Jagat Prakash Nadda, Shri Radha Mohan Singh, Smt. Smriti Zubin Irani, Shri Dharmendra Pradhan, Shri Piyush Goyal, Smt. Nirmala Sitharaman, Shri Jayant Sinha and the Ministers of State for Finance - Shri Santosh Kumar Gangwar and Shri Arjun Ram Meghwal. The Survey has also benefitted from the comments and inputs from officials, specifically, Arvind Panagariya, Nripendra Misra, P K Mishra, Raghuram G Rajan, Urjit Patel, Ashok Lavasa, Shaktikanta Das, Hasmukh Adhia, Anjuly Chib Duggal, Neeraj Kumar Gupta, S Jaishankar, Amitabh Kant, T C A Anant, Vijay Kelkar, Y V Reddy, Ramesh Chand, A P Hota, Rita Teotia, Kapil Dev Tripathi, Rashmi Verma, M. Sathiyavathy, Simanchala Dash, Sangeeta Verma, Amarjeet Sinha, Sushil Chandra, Mohan Joseph, Ajay Tyagi, Dinesh Sharma,Najib Shah, Sushil Chandra, Rani Singh Nair, Nagesh Singh, M R Anand, T V Somanathan, Tarun Bajaj, Brajendra Navnit, Anurag Jain, Saurabh Garg, Prashant Goyal, Anand Jha, Dr. Kumar V. Pratap, B V L Narayana, Arvind Mehta, Arbind Modi, Ashutosh Jindal, Alok Shukla, Amitabh Kumar, Hanish Yadav, Naveen Vidyarthi, Satya Srinivas, Michael Patra, Deepak Mohanty, Bipin Menon, Nanda Sameer Dave, Avneesh Kapoor, Virender Singh, Anurag Sehgal, Deepshikha Arora, Rajan Kumar, Akshay Joshi, Deepak Kumar, DPS Negi, Ram Reddy, Kanchan Dyuti Maiti, R.B Verma, Saswat Rath, Shweta Tomar, Varun Dutt, Nisha Thompson, Thejesh G N, Jorge Coarasa, Sheena Chhabra, Owen K. Smith, Srnivas Kodali, Avinash Celestine, Aman Gupta, Pawan Bakshi, Manoj Alagarajan, Renana Jhabvala, Sarath Davala, Naveen Thomas, Rajesh Bansal, Arghya Sengupta, Rahul Basu, Basu, K P Krishnan,Nirmal Kumar, Prashant Kumar, Laveesh Bhandhari, Tilottama Ghosh, Bhartendu Pandey, Tisha Sehdev, Serene Vaid, Ranjeet Sinha, Kalpnath Bharadwaj, Praveen Kumar, Prakash Kumar, Sanjay Sinha, Yogesh, Todd Moss, Caroline Freund, Samantak Dash, Shishir Baijal, Sumit Shekhar and Savitri Devi, the GSTN team, the Data Meet team and the entire team in the Finance Library; and a number of external collaborators including Abhijit V Banerjee, Dani Rodrik, Devesh Kapur, Pratap Bhanu Mehta, Partha Mukhopadhyay, Nandan Nilekani, Surjit Bhalla, Himanshu, Chinmay Tumbe, Irudaya Rajan, Devesh Roy, Harish Damodaran, Guy Standing, S Sunitha, Manoj Aalagrajan, Sanjaya Kumar, Ashoka Mody, Shekhar Aiyar, Rammanohar Reddy, Sudipto Mundle, Suyash Roy, Rinku Murgai, Dipa Sinha, Milan Vaishnav, Manish Sabharwal, Jeremy Shapiro, Andreas Bauer, Saurabh Shome, Paul Cashin, HarshaVardhana Singh, Shyam Singh Negi, I S Negi, Rafeeq Ahmad, Sanjay Kumar, Aanchal Gupta, Harish Ahuja, V Rangarajan, Rohit Vohra, Tulsipriya Rajkumari, Siddharth Hari, Satya Poddar, Tarrung Kapur, Sajjid Chinoy, Neelkanth Mishra, Pranjul Bhandari, PetiaTopalova, Frederico Gil Sanders, Kartikeya Subramanian, Seher Gupta, Sahil Kini, Ashish Gupta, Kush Shah Srikanth Viswanathan, Anil Nair, Hari Menon, Sandhya Venkateswaran, Madhu Krishna, Yamini Atamvilas, Akali Muthu, Akhila Sivadas, Somnath Sen, Anjali Chikersal, Swapnil Sekhar, Rajeev Malhotra, Manoranjan Pattanayak, Ranen Banerjee, Dilip Asbe and Bhagesh Vyas. Apart from the above, various ministries, departments and organisations of the Government of India made contributions in their respective sectors. Able administrative support was given by S. Selvakumar, R P Puri, R K Sinha, N Srinivasan, V K Premkumaran, Gurmeet Bhardwaj, Pradeep Rana, Sadhna Sharma, Jyoti Bahl, Sushil Sharma, Manish Panwar, Sushma, Muna Sah, Suresh Kumar, Aniket Singh, Jodh Singh, Puneet, Ombir, R R Meena, Subhash Chand, Raj Kumar and other staff and members of the Economic Division and the Office of CEA. R B Aniyeri and his team of translators carried out the Hindi translation. The cover page for the Survey was designed by Jacob George of George Design, Kochi, assisted by Vineeth Kumar. Viba Press Pvt. Ltd., Okhla undertook the printing of the English and Hindi version of the Survey. Finally, the Economic Survey owes a huge debt of gratitude to the families of all those involved in its preparation for being ever so patient and understanding and for extending their unflinching support and encouragement throughout the preparation. Arvind Subramanian (Chief Economic Adviser) Ministry of Finance Government of India

The striking findings are that India's internal integration is strong, and substantially stronger than conventional wisdom believes. For example, we estimate that 8-9 million Indians migrate for work every year, almost twice as big as current estimates. Similarly, India's internal trade is as extensive as that in other large countries. But these results point to a central paradox: there is ostensibly free flow of goods, people, and capital across India and yet income and health outcomes are not converging. Across international borders we see strong evidence of convergence, with poorer, less healthy countries catching up and becoming less poor and more healthy. So the Indian paradox is doubly confounding: thicker international borders that are more impervious to the equalizing flows of factors of production lead to convergence but the supposedly porous borders within India perpetuate spatial inequality. The Survey produces new estimates of the effectiveness of targeting of major current programs, contrasting the wedge between the number of poor in a district and the amount of funding it receives. This leads naturally to a discussion of providing a Universal Basic Income (UBI) that has emerged as a raging new idea both in advanced economies and in India. We discuss this idea as a conversation that the Mahatma might have had with himself, concluding that it merits serious public deliberation. Last year's Survey said that it is ideas for India and for bettering India that matter, not their provenance or paternity. That is more true this year because we have drawn upon an even more diverse set of authors, within India and abroad, from public and private sectors, from academia, private sector, and civil society. It is also an honor that this year's Survey has a contribution from the Honorable Minister of Finance. And this year, we have no fear in the Survey being judged by its cover, which breaks ground with its creative design. This year's Survey is different in coming in just one volume. The detailed review of the year gone by that was covered by the companion volume will now appear later in the year as a standalone document. There has been a lot of recent discussion on the role and contents of the Economic Survey. What should the Survey aspire to? And here the answer is clear, offered by arguably the greatest economist, John Maynard Keynes. What he described as the essential ingredients for the master-economist easily extend to those for the master-Survey. So, paraphrasing Keynes: "It must possess a rare combination of gifts .... It must draw upon mathematics, history, statesmanship, and philosophy-in some degree. It must understand symbols and speak in words. It must contemplate the particular, in terms of the general, and touch abstract and concrete in the same flight of thought. It must study the present in the light of the past for the purposes of the future. No part of man's nature or his institutions must be entirely outside its regard. It must be purposeful and disinterested in a simultaneous mood, its authors as aloof and incorruptible as artists, yet sometimes as near to earth as politicians." Over three years, the Survey has probably fallen short of those lofty standards. But they have been – and must be – the aspiration for this and all Surveys to come.

Arvind Subramanian Chief Economic Adviser

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AMD Ahmedabad AMRUT Atal Mission for Rejuvenation and Urban Transformation ARV Annual Rateable Value ASICS Annual Survey of India's City-Systems BBMP Bruhat Bangalore Mahanagara Palike BBR Bhubaneswar BLR Bengaluru BPL Bhopal CDR Chandigarh CFPI Consumer Food Price Index CHN Chennai CMM Cohort-based Migration Metric CPI Consumer Price Index CPI- IW Consumer Price Index for Industrial Workers CPI-AL Consumer Price Index for Agricultural Labour CRIS Centre for Railway Information System CSO Central Statistics Office CSS Centrally Sponsored Schemes DCRF Debt Consolidation and Reconstruction Facility DDN Dehradun DEM Digital Elevation Model DIPP Department of Industrial Policy & Promotion DL Delhi ETM Enhanced Thematic Mapper FAR Floor Area Ratio FFC Fourteenth Finance Commission FRBM Fiscal Responsibility and Budget Management Act FRL Fiscal Responsibility Legislation FSI Floor Space Index GBM Gradient Boosting Model GDP Gross Domestic Product GIS Geographical Information System GSDP Gross State Domestic Product HPEC High Powered Expert Committee HRIDAY Heritage City Development and Augmentation Yojana HUDA Haryana Urban Development Authority HYD Hyderabad IL&FS Infrastructure Leasing & Financial Services Limited IMF International Monetary Fund IMR Infant Mortality Rate ISRO Indian Space Research Organization ITB Intermediate Treasury Bill JNNURM Jawaharlal Nehru National Urban Renewal Mission JPR Jaipur JUSCO Jamshedpur Utilities and Services Company Ltd. KOL Kolkata KPR Kanpur LANDSAT Land Remote-Sensing Satellite (System) LE Life Expectancy

ABBREVIATIONS

LKO Lucknow LUD Ludhiana MCG Municipal Corporation of Gurgaon MDG Millennium Development Goals MIC Middle Income Countries MNDWI Modified Normalized Difference Water Index MODIS Moderate Resolution Imaging Spectroradiometer MoUD Ministry of Urban Development MPCE Monthly Per Capita Expenditure MUM Mumbai NASA National Aeronautics and Space Administration NDBI Normalized Difference Built-up Index NITI National Institution for Transforming India NRSA National Remote Sensing Agency NSS National Sample Survey O&M Operation and Maintenance OLI Operational Land Imager PAT Patna PCA Principal Component Analysis PDL Public Disclosure Laws PPP Purchasing Power Parity PSU Public Sector Unit PUN Pune PWD Public Works Department RAI Raipur RAN Ranchi RMB Renminbi SAVI Soil Adjusted Vegetation Index SBM Swachh Bharat Mission SCM Smart Cities Mission SDL State Development Loan SRS Sample Registration Survey SUR Surat TFC Thirteenth Finance Commission TFR Total Fertility Rate TVM Thiruvananthapuram UA Urban Agglomeration UAV Unit Area Value UDAY Ujwal DISCOM Assurance Yojana ULBs Urban Local Bodies UN United Nations UNICEF United Nations Children's Fund USGS United States Geological Survey UTS Unreserved Ticketing System VAT Value Added Tax WAH Weighted Average Hybrid WDI World Development Indicators WEO World Economic Outlook WHO World Health Organization WPI Wholesale Price Index

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Eight Interesting Facts About India

● Biases in Perception

China’s credit rating was upgraded from A+ to AA- in December 2010 while India’s has re- mained unchanged at BBB-. From 2009 to 2015, China’s credit-to-GDP soared from about 142 percent to 205 percent and its growth decelerated. The contrast with India’s indicators is striking.

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Poor Standards: Ratings Agencies - China and India

Annual New Migrants (in millions)

● Indians on The Move

New estimates based on railway passenger traffic data reveal annual work-related migration of about 9 million people, almost double what the 2011 Census suggests.

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● New Evidence on Weak Targeting of Social Programs

Welfare spending in India suffers from misallocation: as the pair of charts show, the districts with the most poor (in red on the left) are the ones that suffer from the greatest shortfall of funds (in red on the right) in social programs. The districts accounting for the poorest 40% receive 29% of the total funding.

Share of Poor by District Shortfall in Allocation to Poor by District

● Political Democracy but Fiscal Democracy?

India has 7 taxpayers for every 100 voters ranking us 13th amongst 18 of our democratic G-20 peers.

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Norway^ Sweden^ Canada Netherlands^ Australia^ Portugal^ Belgium

Poland Estonia^ France^ Malta Austria Slovenia New Zealand^ Lithuania United States

Hungary^ Greece

Italy Luxembourg

Spain Finland Germany Singapore^ Lithuania^ Taiwan

Japan Thailand Tajikistan Czech Republic

Vietnam Bulgaria Phillipines^ Brazil United Kingdom

Latvia Colombia^ Ireland

Korea Cyprus Israel S.Africa Malaysia Chile^ India Russia Romania Mexico Argentina^ Indonesia^ Turkey

Taxpayers per 100 Voters

xiv Economic Survey 2 016-

● Property Tax Potential Unexploited

Evidence from satellite data indicates that Bengaluru and Jaipur collect only between 5% to 20% of their potential property taxes.

Unconditional Convergence in GDP per capita

Spatial Urban Built-Up Extent : Bengaluru

● Divergence within India, Big Time

Spatial dispersion in income is still rising in India in the last decade (2004-14), unlike the rest of the world and even China. That is, despite more porous borders within India than between countries internationally, the forces of “convergence” have been elusive.

CHAPTER

Economic Outlook and Policy

Challenges

Against the backdrop of robust macro-economic stability, the year was marked by two major domestic policy developments, the passage of the Constitutional amendment, paving the way for implementing the transformational Goods and Services Tax (GST), and the action to demonetise the two highest denomination notes. The GST will create a common Indian market, improve tax compliance and governance, and boost investment and growth; it is also a bold new experiment in the governance of India’s cooperative federalism. Demonetisation has had short-term costs but holds the potential for long- term benefits. Follow-up actions to minimize the costs and maximise the benefits include: fast, demand-driven, remonetisation; further tax reforms, including bringing land and real estate into the GST, reducing tax rates and stamp duties; and acting to allay anxieties about over-zealous tax administration. These actions would allow growth to return to trend in 2017-18, following a temporary decline in 2016-17. Looking further ahead, societal shifts in ideas and narratives will be needed to overcome three long-standing meta-challenges: inefficient redistribution, ambivalence about the private sector and property rights, and improving but still-challenged state capacity. In the aftermath of demonetisation, and at a time of gathering gloom about globalisation, articulating and embracing those ideational shifts will be critical to ensuring that India’s sweet spot is enduring not evanescent.

I. IntroductIon

1.1 The Economic Survey of 2014- spoke about the sweet spot for the Indian economy that could launch India onto a trajectory of sustained growth of 8- percent. Last year’s Survey assessed that “for now, but not indefinitely, that sweet spot is still beckoningly there.” This year’s stock- taking suggests that shifts in the underlying vision will be needed to overcome the major challenges ahead, thereby accelerating growth, expanding employment opportunities, and

achieving social justice (Chapter 2 in this Survey). In the aftermath of demonetisation, and because cyclical developments will make economic management harder, articulating and embracing those shifts will be critical to ensuring that that sweet spot is enduring not evanescent. 1.2 This year has been marked by several historic economic policy developments. On the domestic side, a constitutional amendment paved the way for the long-awaited and transformational goods and services tax

Economic Outlook and Policy Challenges 3

of long-term benefits. (Chapter 3 identifies certain markers to assess the latter.) These magnitudes will depend importantly on how policy responds to the current situation. Needed actions include: remonetizing the economy expeditiously by supplying as much cash as necessary, especially in lower denomination notes; and complementing demonetisation with more incentive-compatible actions such as bringing land and real estate into the GST, reducing taxes and stamp duties, and ensuring that the follow-up to demonetisation does not lead to over-zealous tax administration.

1.11 The third question on the broader vision will also be critical to shaping the medium term trajectory of the economy. Here the government has taken important steps over the past year. The highlight was, of course, the transformational GST bill, which will create a common Indian market, improve tax compliance, boost investment and growth – and improve governance; the GST is also a bold new experiment in the governance of cooperative federalism. In addition, the government:

• Overhauled the bankruptcy laws so that the “exit” problem that pervades the Indian economy--with deleterious consequences highlighted in last year’s Survey--can be addressed effectively and expeditiously;
• Codified the institutional arrangements on monetary policy with the Reserve Bank of India (RBI), to consolidate the gains from macroeconomic stability by ensuring that inflation control will be less susceptible to the whims of individuals and the caprice of governments; and
• Solidified the legal basis for Aadhaar , to realise the long-term gains from the JAM trifecta (Jan Dhan-Aadhaar-Mobile), as quantified in last year’s Survey.

1.12 Had the government announced such

an agenda early in 2016, its ambition would have elicited skepticism, probably deserved. Yet a year on this agenda has been achieved, and in nearly all cases through legislative action that commanded near-political unanimity. 1.13 Beyond these headline reforms were other less-heralded but nonetheless important actions. The government enacted a package of measures to assist the clothing sector that by virtue of being export-oriented and labor- intensive could provide a boost to employment, especially female employment. The National Payments Corporation of India (NPCI) successfully finalized the Unified Payments Interface (UPI) platform. By facilitating inter-operability it will unleash the power of mobile phones in achieving digitalization of payments and financial inclusion, and making the “M” an integral part of the government's flagship “JAM”- Jan Dhan, Aadhaar, Mobile-- initiative. Further FDI reform measures were implemented, allowing India to become one of the world’s largest recipients of foreign direct investment. 1.14 These measures cemented India’s reputation as one of the few bright spots in an otherwise grim global economy. India is not only among the world’s fastest growing major economies, underpinned by a stable macro-economy with declining inflation and improving fiscal and external balances. It was also one of the few economies enacting major structural reforms. Yet there is a gap between this reality of macro-economic stability and rapid growth, on the one hand, and the perception of the ratings agencies on the other. Why so? Box 1 elaborates on the possible reasons. 1.15 But much more needs to be done. Especially after 1991, India has progressively distanced itself from statism and made considerable strides in improving the management of the economy. Yet a broader stock-taking (discussed in Chapter 2) suggests

4 Economic Survey 2016-

that India has to traverse a considerable distance to realize its ambitions on growth, employment

and social justice. Broader societal shifts are required in ideas and narratives to address

Box 1. Poor Standards? The Rating Agencies, China & India In recent years, the role of ratings agencies has increasingly come into question. In the US financial crisis, questions were raised about their role in certifying as AAA bundles of mortgage-backed securities that had toxic underlying assets (described in Michael Lewis’ The Big Short ). Similarly, their value has been questioned in light of their failure to provide warnings in advance of financial crises—often ratings downgrades have occurred post facto, a case of closing the stable doors after the horses have bolted (IMF, 2010; Krugman, September, 2015^2 ). But it is also worth assessing their role in more normal situations. In the case of India, Standard & Poor’s in November 2016 ruled out the scope for a ratings upgrade for some considerable period, mainly on the grounds of its low per capita GDP and relatively high fiscal deficit. The actual methodology to arrive at this rating was clearly more complex. Even so, it is worth asking: are these variables the right key for assessing India’s risk of default? Consider first per capita GDP. It is a very slow moving variable. Lower middle income countries experienced an average growth of 2.45 percent of GDP per capita (constant 2010 dollars) between 1970 and 2015. At this rate, the poorest of the lower middle income countries would take about 57 years to reach upper middle income status. So if this variable is really key to ratings, poorer countries might be provoked into saying, “Please don’t bother this year, come back to assess us after half a century.” Consider next fiscal variables. The practice of ratings agencies is to combine a group of countries and then assess comparatively their fiscal outcomes. So, India is deemed an outlier because its general government fiscal deficit ratio of 6.6 percent (2014) and debt of 67.1 percent are out of line with its emerging market “peers” (See Table 1 in Chapter 5). But India could be very different from the comparators used by the ratings agencies. After all, many emerging markets are struggling. But India has a strong growth trajectory, which coupled with its commitment to fiscal discipline exhibited over the last three years suggests that its deficit and debt ratios are likely to decline significantly over the coming years. Even if this scenario does not materialise, India might still be able to carry much more debt than other countries because it has an exceptionally high “willingness to pay”, as demonstrated by its history of not defaulting on its obligations (Reinhart, Rogoff and Savastano, 2003). Figure. Credit/GDP ratio and GDP growth for China and India and respective S&P rating

Source: WDI and S&P; for 2016, India’s credit data are from RBI and Credit Suisse; for 2016, China’s credit number is obtained by adding flows of total social financing (TSF) from the Bank for International Settlements (BIS) to the 2015 stock obtained from the WDI.

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(^2) http://krugman.blogs.nytimes.com/2015/09/17/fear-the-rating-agencies/