There is a very interesting MINT Street Memo from the Reserve Bank of India which tries to estimate the ‘Finance-Neutral’ or ‘Credit-Neutral’ output gap whereas conventional analysis uses ‘Inflation’ as the basis to estimate the output gap or, by implication, potential growth.
Like the ‘Non-Accelerating Inflation Rate of Unemployment’ (NAIRU), this one is the Non-Exuberant Asset Prices Rate of Growth (NEAPRG) or Non-Excessive Credit Offtake Rate of Growth (NECROG). According to the authors, it is 7% in India. India’s economy has closed the output gap two or three quarters ago and the output gap may even be positive, according to the authors. On this basis, the Reserve Bank of India may be justified in raising the policy rate at its next meeting! Not that they are short of reasons for doing so.
Indirectly, this underscores the point that Gulzar Natarajan and I made in our book, ‘Can India grow?’ that India’s sustainable growth rate is far lower than most of us would like to believe.
When I shared the details of this Mint Street Memo with my friend Srinivas Thiruvadanthai, he said that the ‘Balance of Payments’ or ‘Current-Account Neutral’ potential growth could be closer to 6% in India! Sobering.
The Mint Street Memo No. 14 can be accessed here.