Bharat must prepare itself to face a long period of global recession. It is normal for the market to weed out inefficient companies during recessions. The more efficient companies that can whither the storm emerge leaner and trimmer and more profitable in the next cycle. The same applies to countries. We need to improve quality of our goods and services and reduce price at the same time.
The roots of the present crisis emerging from China lie in stagnant demand for Chinese goods from the United States and Europe. China has continued to make investments in factories in the hope of making increased exports. Stagnant demand in the developed countries along with increasing production in China has led to a glut in the global markets. Chinese factories are closing down. As a result, China was forced to devalue its currency. Main point here is that China’s crisis is not internal. It is driven by stagnant demand in the developed countries.
This stagnation in demand from the developed countries has set in despite the central banks of these countries pumping huge amounts of cheap money into the system. The US Federal Reserve Board and the European Central Bank have both maintained near zero rates of interest for many years. Alas! there are limits to borrowing-led consumption. American consumers, for example, have already incurred huge debt on their credit cards. They are not willing to borrow yet more. I suspect the same is true for Europe. As a result the demand is stagnant.
Developing countries are trying to sell increasing quantities of their goods in this placid market. As a result they may be descending into a price war. Bharat has allowed its rupee to fall in tandem with the Chinese Yuan. Currencies of other exporting countries like Vietnam and Philippines are falling too. We are all engaged in a race to the bottom. There will be no winners here. Devaluation of currency by one country will be matched by others. In the end, only the developed countries who are buying these goods will gain. They will get cheap goods both from China and Bharat. But, as said above, the demand from the developed countries is already flat. Therefore, the devaluation of currencies of the developing countries and the consequent reduction in price of these goods for the American consumers will not create much additional demand. A patient in coma does not start eating large quantities of fruits if the price falls. Similar is the situation of the developed countries today. Consumers in these countries simply do not have the money to buy goods.
There may yet arise a window of opportunity for Bharat in this dismal scenario. Stressed households in the developed countries will look for cheaper substitutes. For example, they may want to buy cheaper textiles instead of designer clothes, ordinary rice instead of basmati, and smaller cars instead of luxury sedans. Our ability lies in providing these “lower” goods at cheap price. Likewise, corporations will want to reduce their cost of production to stay afloat. This too provides an opportunity for us. Recall that our software exports had not taken a hit in the aftermath of the global crisis of 2008. This happened because American corporations closed down their in-house software development facilities and call centers and started outsourcing them from Bharat in order to reduce costs. The present crisis will see a repeat of the same. Once again, we can gain if we can provide good quality services at cheap prices.
Problem is that the margin between our cost of production and that of the developed countries is reducing. Wages in the developed countries are moving down; while those in Bharat are moving up. Many software engineers and senior managers in Bharat are nowadays drawing salaries nearly equal to their counterparts in the developed countries. As a result our “natural advantage” of low wages is being eaten away. Previously we competed with the developed countries on wages alone. A Call Centre operated from Bharat may have provided the same quality of service as a Call Centre located in the United States. But it was cheaper to establish it in Bharat due to lower wages here. This wage differential has much reduced and will continue to reduce as time passes by. Therefore, it will no longer be profitable for the US Corporations to establish Call Centres in Bharat due to wage savings alone. The increase in cost in shifting the Call Centres back to the US will be minimal. We will have to provide better quality of service at lower prices in order to stay in business. The skill development programme initiated by Prime Minister Modi can turn out to be a game changer here. We may be able to provide better skills at cheaper prices. The operators at the Call Centre in Bharat may be cheaper today. The skill development programme has the potential of making them better. US Corporations will virtually be forced to shift their operations to Bharat if they cannot get the desired quality of workers in the United States.
The other component of cost is compliance with government regulations. The policies of our Government should be favourable in this respect. Export procedures should be made less cumbersome. Recently, an exporter from Bengaluru told me that as per new regulations every export consignment has to be accompanied with a certificate from the Chartered Accountant. Such regulations lead to increased costs of compliance and price out our goods from the global markets. Another businessman from Mumbai was supplying labour to the Gulf Countries also urged for simplifying procedures and reducing the transaction costs of making exports.
We must prepare ourselves to face a long period of global recession. It is normal for the market to weed out inefficient companies during recessions. The more efficient companies that can whither the storm emerge leaner and trimmer and more profitable in the next cycle. The same applies to countries. Take garment exports. A decline in prices will hit both Bharat and Bangladesh equally. In the end one may survive while other collapses. The task before us is to survive in the coming storm. This requires proactive measures by the Government to simplify business procedures.
We have no choice but to allow the rupee to devalue in tandem with other major currencies such as the Yuan. But it would be disastrous to think that devaluation alone will help us face the recession. We need to improve quality of our goods and services and reduce price at the same time.
Dr Bharat Jhunjhunwala
( The writer is former Professor of Economics at IIM Bengaluru )
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