Jayati Ghosh: None of the Experts Saw India’s Debt Bubble Coming. Sound Familiar?

By Jayati Ghosh, Professor of Economics and Chairperson at the Centre for Economic Studies and Planning, Jawaharlal Nehru University, New Delhi. Cross posted from Triple Crisis

So now India is the latest casualty among emerging economies. Over the past 10 days, the rupee has slid to its lowest-ever rate, and the Indian economy may well be on the verge of a full-blown currency crisis. In this febrile situation, it is open season for rumours and pessimistic predictions, which then become self-fulfilling.

This means that even if there is a slight market rally, investors quickly work themselves into even more gloom. Each hurriedly announced policy measure (raising duties on gold imports, some controls on capital outflows, liberalising rules for capital inflows and so on) has had the opposite of the desired effect. Everything the government does seems to be too little, too late – or even counterproductive.

These are all classic features of the panic phase of a financial market cycle. This doesn’t mean that a crash is inevitable, but clearly it is possible. The real surprise in all this is that investors and Indian policymakers are surprised. For some reason, they apparently did not foresee this turn of events, even though the story of every financial crisis of the past, and many in the very recent past, should have caused some nostrils to twitch at least a year or two ago.

The Indian economy has been in trouble for quite a while already, and only willful blindness could have led to ignorance on this. Output growth has been decelerating for several years, and private investment has fallen for 10 consecutive quarters. Industrial production has declined over the past year. But consumer price inflation is still in double digits, providing all the essential elements of stagflation (rising prices with slowing income growth).

At the moment the external sector is the weakest link. Exports are limping along but imports have ballooned (including all kinds of non-essential imports like gold), so both trade and current account deficits are at historically high levels. They are largely financed by volatile short-term capital. This has already started leaving the country: since June more than $12bn has been withdrawn by portfolio investors alone.

This situation is the result of internal and external imbalances that have been building up for years. The Indian economic boom was based on a debt-driven consumption and investment spree that mainly relied on short-term capital inflows. This generated asset booms in areas such as construction and real estate, rather than in traded goods. And it created a sense of financial euphoria that led to massive over-extension of credit to both companies and households, to compound the problem.

Sadly, this boom was also “wasted” in that it did not lead to significant improvements in the lives of the majority, as public expenditure on basic infrastructure, as well as nutrition, health, sanitation and education did not rise adequately.

We should know by now that such a debt-driven bubble is an unsustainable process that must end in tears, but those who pointed this out were derided as killjoys with no understanding of India’s potential. Something similar is occurring in a number of other Asian economies that are also feeling the pain at present, such as Indonesia – while the Brazilian economy shows some similar features. The current Indian problems may be extreme, but they reflect what should now be a familiar process in all major regions of the world.

The typical story, which was elaborated half a century ago by Charles Kindleberger, goes something like this: a country is “discovered” by international investors and therefore receives substantial capital inflows. These contribute to a domestic boom, and also push up the real exchange rate. This reduces the incentives for exporters and producers of import substitutes, so investors look for avenues in the non-tradable sectors, such as construction and real estate. So the boom is marked by rising asset values, of real estate and of stocks. The counterpart of all this is a rising current account deficit, which no one pays much attention to as long as the money keeps flowing in and the economy keeps growing.

But all bubbles must eventually burst. All it takes is some change in perception for the entire process to unravel, and then it can unravel very quickly. The trigger can be a change in global conditions, or a sharp slowdown in domestic income growth, or political instability, or even economic problems in a neighbouring country. In India Ben Bernanke of the US Federal Reserve is being blamed for bringing this on, but it could easily have been some other factor. Once the “revulsion” in markets sets in, the very features that were celebrated during the boom are excoriated – by both investors and the public – as examples of crony capitalism, inefficiency and such like. The resulting financial crisis hits those who did not really benefit so much from the boom, by affecting employment and the incomes of workers.

This is what has just started to happen in India, and is also likely to happen in several other emerging markets. But essentially the same process has already unfolded many times before in different parts of the world: Latin America in the 1980s, Mexico in 1994-95, south-east Asia in 1997-98, Russia in 1999-2000, Argentina in 2001-02, the US in 2008, Ireland and Greece in 2009, and so on.

Why are we so startled each time? And why do we never, ever, see it coming?

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About David Dayen

David is a contributing writer to Salon.com. He has been writing about politics since 2004. He spent three years writing for the FireDogLake News Desk; he’s also written for The New Republic, The American Prospect, The Guardian (UK), The Huffington Post, The Washington Monthly, Alternet, Democracy Journal and Pacific Standard, as well as multiple well-trafficked progressive blogs and websites. His has been a guest on MSNBC, CNN, Aljazeera, Russia Today, NPR, Pacifica Radio and Air America Radio. He has contributed to two anthology books, one about the Wisconsin labor uprising and another on the fight against the Stop Online Piracy Act in Congress. Prior to writing about politics he worked for two decades as a television producer and editor. You can follow him on Twitter at @ddayen.


  1. S M Tenneshaw

    Why yes it does sound familiar. The less they see, the more they get paid. Ya gotta love it – unless you’re one of the 99%, in which case your opinion doesn’t count.

    1. Clive

      Yes, the current system of capital distribution (I refuse to call it capitalism any more) has as an apparently accepted piece of collateral damage the destruction of the middle classes in the developed world. So it was ridiculous for any emerging economy to ever entertain the fantasy that it would be allowed to escape the Middle Income Trap (http://en.wikipedia.org/wiki/Middle_Income_Trap)

      None of this will be news to regular NC readers; Satyajit-Das basically predicted this entire train wreck over a year ago in his excellent series (pt. 2 is the most relevant): http://www.nakedcapitalism.com/2012/05/satyajit-das-the-great-pretender-indias-economic-past-future-part-2-a-sea-of-troubles.html

      Sorry, the only phrase that fits is, and I can’t resist, “Quelle Surprise”.

      I feel doubly bad on this one, too. Being a Brit, we’ve got karma on our hands from our time merrily exploiting India in the days of the Raj. Now India has invited its own exploitation all over again through Wall St, that outpost of the American Empire. Please India, take this opportunity to forge that truly shining future you deserve for yourselves — this time, on your own terms, subservient to no-one.

  2. Fiver

    Nothing like successive tidal waves of QE to utterly f-up the global financial system – and since the US and UK have generated diddly spit in the way of new, real wealth to steal (the banks having already purchased a controlling interest in key US sectors using QE) the predators naturally find prey where they can – the logic suggests India, Indonesia, Brazil, Turkey…..

    India has been living in a fantasy for the past decade at least. It has bought so far into the foolish notion that the future is all about the number of brains harnessed to some supercomputer, it can only be hoped a dose of reality will re-focus all efforts towards creating a sustainable Indian future for all Indians, not some crazy desire to strut the global stage on a par with the US or China – both of which have their own deadly crises ahead of them.

    For India, every bit as for China, attempting to emulate a materialistic, egoist, power-oriented culture will prove fatal – as it will to the US itself.

    1. GRP

      Well said. Each country has to find its own role in the globalised economy instead of aping another, however successful it may seem at any given time or over any period. Jolts like this can only the process.

  3. psychohistorian

    It is willful blindness like the author stated though I would call it conscious and willful to speak to the deliberate nature of the manipulation…..population control by global economic genocide…..is it a feature or a bug?

  4. GRP

    All the speculative capital is exiting the emerging market economies for sure. But it is a bit early to start writing obituaries for these economies. Frankly, it is to the benefit of these economies that the speculative capital is exiting, even though it may involve some short term pains like increased cost of imports.

    It is silly to assume that opening economies to globalisation has only upsides and no downsides. Only when countries take steps to temper irrational behaviour, both exuberance and fear, by international speculative capital, they can benefit from the process.

  5. Maju

    I’m a bit surprised but probably just because I wasn’t paying attention. After all India is indeed a weak link in global capitalism.

    But, if Jayati’s gloomy view is real, if India is “the next Spain”, so to say, then something very big may be brewing. India is not just a big GDP figure (comparable to Russia or Italy) but also a country immerse in a very active class war, with a strong Maoist guerrilla and a civil society that has been demonstrating as of late being more self-aware and dynamic. It is also a geostrategic keystone, being the only BRIC more or less sincerely leaning towards the West, and then of course one of every six people alive today is Indian.

    I wouldn’t dare to make any predictions but it looks like, if The Crisis really hits India as hard as suggested here, we are to witness some major historical changes soon.

  6. allcoppedout

    The standard argument on this for at least 50 years is confusing. Hot money floods in because of something like QE or other ‘surplus capital’ and ends up in stuff like housing bubbles before exiting and bringing the currency down. Indeed, it’s all so predictable one has to wonder why anyone is gullible enough to allow it – and how money is made.

    While all this goes on it is also obvious we don’t invest enough in our own economies and banks are able to claim they make money. Work that should be done is not, large numbers of people remain unemployed and money can somehow claim to make money. How do they know when to sell? If this was sport, wouldn’t we make this foul behaviour subject to sending off or penalties?

  7. NotSoSure

    Indonesia just raised its benchmark rate to 7 from 6.5. The die is now cast. All that remains is a bank failure to trigger a panic. My guess is that it’s going to come from KPR (Kredit Perumahan Rakyat), that’s basically home mortgages. There was a report not two months ago how some borrowers are overleveraged with two or three houses. Other possible cause is the super high total debt of the country (govt and corp included), September is the month where a particularly high level of payment is due for the year.

  8. TC

    “Sadly, this boom was also ‘wasted’ in that it did not lead to significant improvements in the lives of the majority, as public expenditure on basic infrastructure, as well as nutrition, health, sanitation and education did not rise adequately.”

    Not a problem. Once there is a political consensus to seize India’s central bank and task it to provide cheap credit for the sake of satisfying these very necessary improvements, then the problem will be solved, or at least be on the right path to being solved.

    “In India Ben Bernanke of the US Federal Reserve is being blamed for bringing this on, but it could easily have been some other factor.”

    Yes, like Greenspan and many others whose sponsorship traces back to an operation being run from Venice on the Thames more or less since the mid-17th century.

    So, nationalize the Indian central bank, marshal the resources to capitalize a BRICS development bank, arrange financing for capital goods India produces and Egypt needs, and get on with the war with the imperial front run through the IMF already.

    1. GRP

      India’s Central Bank (Reserve Bank of India) is already a public entity, not owned by any shareholder banks.

      India, like China, lacks the energy resources needed for industrial growth and is dependent on energy imports. However while China pursued an aggressive export-led growth, India did not. Most of India’s growth in the last 2 decades came from internal consumption by a growing middle class debt(the majority, who wouldn’t qualify for bank credit, did not “benefit” from this growth). But the growth also leads to increasing imports, especially petroleum. So India continues to depend on external investments for growth.

      1. Shash

        Not to mention other nationalised banks like the State Bank of India, which are also critical in the economy. I don’t think non-nationalized banks are a problem in India. Or at least, they needn’t be.

  9. Banger

    On the contrary, I’m not at all surprised–outside experts and many Indians have said that this prosperity was unsustainable because of the reason you gave. Even a cursory understanding of how India functions has to take into account the profoundly corrupt nature of Indian politics which was able to stay in balance in a more steady-state economy (corruption need not be a net-negative in a society as long as it stays within certain bounds) but with the boom too many chops were licked and too many hustlers gamed the system for short-term gain as always happens in societies that have lost their way. India can recover if it returns to the idea that people and culture not money should be the central pole of political planning and rule.

  10. Clive

    Am about to go into full-on Mystic Clive mode here, so just my speculation, but I’ll also make a prediction that one of the first shoes to drop will be the shock, horror, who-could-a-node “revelation” that some of the big Business Process Outsourcing and IT body shops which have grown like Topsy in the past 10 years or so of the Bubble Era are Enron-esque control fraud vehicles.

    I know some of these operations up close and personal; they play every trick in the book for billing scams, fake resources, graft, kickbacks and more. Now, some of this is (oh, how quickly we become desensitised !) business as usual this day and age. But the scale it is done on makes me think that it’s a shell game and sooner or later, someone is going to want to see the pea.

    1. Synopticist

      You might well be onto something there Clive.

      I guess a big reason we didn’t see it coming is because few of us can truly focus on more than a couple of things at once, and China is sexier.

  11. kaj

    A piece of errant nonsense.

    1/ If you pre-designate something as a bubble and then say that it was bound to burst isn’t that circular reasoning;

    2/ India has had several foolish Central Bank chairmen who clung on to outmoded theories of tight monetary policy. The current, and retiring Governor, instead of lowering interest rates as in the U.S. or in Europe during the the curent recession, when the global economy dipped during 2007-1010 has instead gone on to raise interest rates substantially because of higher inflation. There has been little realization that each country has its own problematique which is limited to (a) its unique historical circumstance, and (b) the global economy in which the country is embedded. Looking at very high rates of inflation in Brazil during the 1970s through late 1980s and applying the logic of tight money to India of 2000s to curb inflation is idiotic and now, apparently, turning out to be disastrous. India’s problem is on the Supply side which means creating indusrial employment and exports, ie, a modified Chinese model and not that of holding back production and growth. Unfortunately, they have recently chosen a much hyped IMF honcho, who is wedded to IMFs toxic and erroneous logic of high intrest rates and “deficit reduction” to become the next governor of their central bank. The results should be predictable as they are in Europe.

    India, like in most poor countries, mostly in Africa and Asia has serious problems of grain production and storage. Most of their agriculture is presently geared to the “green revolution,” that is, heavy application of fertilisers and pesticides and water usage. India, a counry with a very high population per kilometer, and which suffers from chronic water shortages has consequently become dependent upon the “summer monsoon.” This nexus is bound to lead to frequent agricultural failures and if not disasters. Rural poverty levels are and remain very high which begets ignorance and bureaucratic corruption.

    German and Scandanavian food distributors and human-rights organizations have tried to insert some common-sense in India’s food storage and distribution mechanisms but apparently not much success. The Indian government needs to insert itself fully and deeply into the refrigerated-storage, transportation and architecture of the food distribution system creating systems akin to the farmers markets in the U.S. and Europe, drastically reducing waste so that food costs for the urban and rural populations remain contained. They need to create an incentive system for the grower to grow and not to have to vend and store which are prohibitively expensive and capital intensive for a very small stake-holder. This small farmer, be it in Africa or Asia does not have the holding power(storage)and skills to market their farm products. They take their price guidance from the intermediaries who manipulate prices locally and reap very high realtive profits. When the small farmer tries to vend there is tremendous wastage because they lack refrigeration and crop selection. That is where the government comes in.

    This is the majority of India’s “inflation” problem, aside from gold trade and oil related external deficits. The government could levy high taxes on gold imports in the vicinity of 75 per cent and kill that market. But No! They fiddle around with 8-10 tax on imports.

    These issues can be confronted both morally and ethically by informing the people for the reasons underlying their decisions under the label of “nation-saving.”

    Poorly formulated multi-party democracies like India are going to have a hard time growing equably, yet with a decently formed system they have a chance. We are finding that out now in the U.S. which is saddled with an antiquated, wealthy-leaning constitution which is impossible to modify.

    1. Shash

      Lots of interesting points in your post, but one observation about gold imports:

      In Indian culture, gold jewellery occupies a central place in weddings. The girl’s side in an orthodox wedding is expected to provide as much gold as possible in the form of a dowry. In recent times, especially, the dogma has been that this gold has to be new – i.e., not inherited from what was given to her mother or grandmother. I’ve heard of cases of 50 or 100 sovereigns of gold dowries demanded/given even in families of fairly modest means. The father is often bankrupted, or at least, has to wipe out his savings to do this. It’s technically outlawed, extremely hard to police, because it’s so rarely reported.

      When the legal route is made expensive through taxation, the tendency is to just go to the friendly neighbourhood gold smuggler. Which, as you can imagine, is a very lucrative occupation that breeds an insane amount of corruption. People go through all that because that’s the only way they can get their daughters married. Quite apart from all the social and economic implications of all this, the gold smugglers are also in a nexus with various pieces of the mafia, who are in turn in cahoots with outright terrorist organizations like Dawood Ibrahim’s D Company. There’s a theory that the ’93 bomb blasts in Bombay (Mumbai) were financed by gold smuggling. Which is why import restrictions were lifted in the first place, according to that particular conspiracy theory.

      And now, there are all kinds of gold marketing tactics like the promotion of Akshaya Trithiya, a Hindu holy day that was of no particular significance a decade ago, as a day when it’s “auspicious” to buy gold. Prices spike like crazy around that day.

      Basically, what I’m saying is that it’s more than the Glenn Beck type “buy gold from me” madness in the US. It’s a deep-rooted cultural problem that can’t be solved through economics alone.

  12. F. Beard

    But all bubbles must eventually burst.

    Because our money (mostly bank credit) is LENT into existence for usury. The usury eventually becomes unsustainable and/or the supply of the so-called creditworthy is exhausted. There is no such problem with monies that are SPENT into existence such as fiat and common stock.

    But why share or pay honest interest rates if one can legally steal?

    Here it is the 21 century and we still haven’t learned that honesty is the best policy?

  13. Emma

    “Why are we so startled each time? And why do we never, ever, see it coming?”

    In the case of India, we do not need a seductive explanation. The nauseating fog choking India should have always been apparent. The country doesn’t need A Suitable Boy, but rather desperately needs A Suitable Leader.

    Indian politicians need a kick up the arse as the time has passed for contemptibly playing with their people through illusion, ignorance and blame-games.

    It would be more than the infinite and invaluable virtue of The God of Small Things, if India did indeed have one and only one God today.

    The country seriously requires a leader who, if unable to unify the plethora of ruling gluttonous leeches, can pull off significant reform instead in such a highly dysfunctional country, by wielding a clean iron fist and blocking the fat from rising to the top with a firing squad.

    Will it happen? Doubtful……highly doubtful because individualism rules culture in India unlike collectivism in a place like China whereby “we the people” progress and change are able to take place…and not just in the guise of a tank. It is a feather in the cap for the Chinese and one which the Indians would be wise to borrow from for a very welcome change…….

  14. susan the other

    Trade is not the mechanism that runs an economy. An economy should be self sufficient except for those few, very few, things it cannot produce. But our diet has been turned upside down. Just like puffed rice. 100 years ago puffed rice was advertized as a crunchy sprinkle on a large bowl of fresh fruit. Today? Neoliberal plans for trade agreements are going to be as big a disaster as capital flows and debt bubbles. Economies need to be self contained in order to be reliable. And the only thing that should be termed “capital” is money spent to create this kind of an economy.

    1. R Gopu

      “Self-sufficiency is another word for poverty” – Matt Ridley. We are very very very rich because of trade, which enables us to buy millions of things we could never make ourselves, and because of science and technology, which makes all those millions of things which never existed a hundred years back.

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