Sweden Holds Lessons for Indian Economy

It was not long ago when a small country in northern Europe – Sweden – exemplified a perfect example of Keynesian economics. The country stuck to the context of welfare state and had no plans to move towards free market economy. However, the country woke up just in time to realise the importance of free markets. Sweden: From Budget Deficit to Budget Surplus Sweden seems to be comparing the advantages and disadvantages of austerity. Taking cue from Germany, the country has cut public spending by at least 20 percent of the gross domestic product in the past two decades. The country has cut taxes and opened up its markets. This has led to a dramatic turnaround in the economy of this Scandinavian nation that had seen an outburst in taxes between 1970 and 1990. Sweden had a budget deficit of 11 percent in 1993 and public spending was more than 70 percent of the GDP. The non-socialist government of Carl Bidt between 1991 and 1994 was the beginning of change in Sweden. Moreover, with the return of the Social Democrats in 1994, measures were taken for fiscal tightening. Further reforms and by 2009, Sweden was back to a growth rate of 4 percent with a budget surplus which reached 6.7 percent in 2011. Although, unemployment rate of 7.5 percent remains a cause of concern. What Helped? Deduction in Taxes and Fiscal Tightening Sweden had one of the highest taxes in the world which acted as a deterrent to private enterprise. However, the country has now realised that taxing citizens and corporations is not in favour of the economy and the present government has abolished wealth taxes, gift and inheritance taxes. Nonetheless, the country still has the maximum marginal income tax of 56.5 percent, but that is certainly way below the 90 percent tax of the bad old days. Moreover, there is strong demand for reducing corporate taxes from 26 percent to 20 percent. Sweden now realises the importance of reducing debt and the need to involve private sector even for social welfare services. The country has not yet opened its markets completely but is certainly moving in the right direction. India – A White Elephant? On the other hand, India, which had been witnessing second highest GDP growth rate among Asian countries, now faces the danger of losing all momentum generated over past one decade. News agencies reported on June 18, Monday that Fitch Ratings has further revised Indian economy’s outlook to negative from stable. Moreover, India’s long-term foreign and local currency issuer default ratings (IDRs) have been affirmed at ‘BBB-‘ and short-term foreign currency at ‘F3’. The Fitch setback comes just weeks after credit rating agency S&P downgraded India’s ratings from stable to negative and warned that India could become the first BRIC nation to lose its investment grade rating, courtesy slowing GDP growth and political roadblocks to economic policymaking. The report further commented on the present Indian political scenario mentioning, “paramount political power rests with the leader of the Congress party, Sonia Gandhi, who holds no Cabinet position, while the government is led by an unelected prime minister, Manmohan Singh, who lacks a political base of his own”. Indian Economy Needs Structural Reforms India is at a very high risk of losing its investment potential which will start a vicious cycle of unemployment and rise in inflation coupled with lack of capital for enterprises. It is high time government rose to action to create a positive environment for private investments and businesses. Moreover, the government must take cue from Swedish model and start fiscal tightening. India’s GDP grew just 6.5% in FY2011-12, down from an 8.4% rise in FY2010-11. The structural challenges are weighing heavy on the minds of business leaders who are finding it increasingly difficult to counter menaces like corruption. Foundations are still Strong The only hope for India in the wake of downgrade in ratings by S&P and Fitch is its diversified economy and high domestic savings which are helping the country stabilise any fluctuations in foreign investments. The government is capable of issuing long-term debt at low costs and that too in Indian National Rupee. Moreover, RBI still has high foreign exchange reserves. The Outlook With General elections round the corner and fragile political scenario haunting Indian economy, it will be foolish to expect that the country will get its fiscal policy in shape. Nonetheless, a pool of highly educated Indians and strong demand for services in the country are positive indications. But this is the time when India cannot afford to take everything for granted. The country now has to decide whether it wants to move backward to the license-quota raj or give its citizens an environment that values merit, talent and private enterprise.