Consistency will be key

The survey by a body such as the World Bank carries considerable credibility. World Bank surveys generally collect data from a fairly widespread sample of firms, and if it shows that the environment for business has improved, then it is certainly a good sign and a positive development. International investors and multi-national firms do consider the ease of doing business in a country before making international investment decisions.

However, there are a lot of areas that India needs to work on. The data on the economy shows a definite slowdown. However, this is not recent. The slowdown started sometime in 2013. One area which has gone down over this period is investments, and there are many reasons for it. The improvement in the World Bank Ease of Doing Business ranking should help to attract additional investments in the economy. However, we should keep in mind that the economy goes through business cycles and this affects the investment component of GDP much more than consumption.

One reason for the slowdown in investments is partly to correct for excesses in investments that have occurred earlier and which is showing up in high non-performing loans of the banking sector. This is part of the natural economic cycle and in the natural course the investment to GDP ratio will go back up to the long term trend level.

The improved rankings will definitely help investment decisions, but we need to work on certain other aspects. One of the most important factors that influence corporate decisions is clarity in policy and continuity in law. Any major reversal or lack of clarity on that front will send negative signals and impact investor confidence and future decisions. One such instance in recent history was the imposition of retrospective tax by the Union government in 2012. It might have been an attempt by the government to generate some additional tax revenue, but it affected businesses and conveyed the message that the policy environment in India can suddenly turn adverse. This in turn would naturally lead to businesses becoming cautious about committing large investments in India. Governments must be mindful of the long-term impact of their decisions as investors look for consistency in policy. It is important that the government wins the confidence of the industrial community in this regard.

Another major factor that hinders investment and growth of businesses is access to credit. The World Bank survey indicates that it has improved, and that is a welcome sign. While larger firms have better access to credit, it remains an issue for the small and medium firms. In a recent research paper published in the Journal of Corporate Finance, the findings show that firms in India that maintain exclusive relationships with public sector banks are less credit constrained in their investments compared to firms that do not have exclusive relationships with public sector banks. Surprisingly, the benefit of reduction in credit constraints on investments due to exclusive relationships with public sector banks are found only for the large firms and not for the smaller firms, as one would expect given the stated government policy of supporting small and medium firms. The micro, small and medium enterprises contribute 45 per cent to the total manufacturing output and 40 per cent of exports from the country.

Easing the constraints to doing business for the small and medium firms is also important in achieving the full potential of the economy.

As told to K.J. Jacob