What does Modi 3.0 coalition government mean for economic reforms?

In his first speech after the results of the 2024 Lok Sabha polls, Prime Minister Narendra Modi vowed that his third term in office would be one of tough decisions.

This may be easier said that done given the BJP’s reduced numbers in Parliament.

The party, which won 303 seats in Parliament in 2019, now has 240 seats.

Since the party is now relying on its allies to form the government, many have forecast the return of what Atal Behari Vajpayee described as coalition dharma.

But does that signal bad news for economic reforms?

 Let’s take a closer look:

 First, let’s take a brief look at what Modi plans to do.

 When it comes to economic reforms, the prime minister is expected to implement a host of business-friendly measures including pushing through regulations making it easier to hire and fire workers, according to two government officials familiar with the matter.

As part of an election pledge to transform India into a global manufacturing hub, Modi wants to offer subsidies for domestic production modelled on recent packages for semiconductor firms and electric vehicle makers, said the officials, who spoke on condition of anonymity because they were not authorised to talk to media.

Experts say this makes sense.

“India is rightly being looked at as the leading contender for China+1 strategy," Amit Kumar, a researcher at the Takshashila Institution in Bengaluru told DW.

“India faces competition from the likes of Vietnam, Thailand, Malaysia and ASEAN as a whole. Mexico too is a competitor. But given geopolitics is the reason driving de-risking and diversification away from China, India is a much safer bet than the others,” he added.

“As a neutral democracy with one of the world’s largest and fastest-growing consumer markets, India has become increasingly attractive as a hub for foreign direct investment from multinationals across the US, EU, Asia and the Middle East,” Rajiv Biswas, an international economist who’s also the author of Asian Megatrends added.

“India’s growing attractiveness for foreign multinationals has resulted in the doubling of FDI inflows over the past decade, with India’s cumulative FDI rising to around $600 billion during 2014-2023,” he said.

Modi also plans to reduce import taxes on key inputs for locally-made goods, which have pushed up India’s manufacturing costs, the officials said.

Here, India is in tough competition with China.

Shilan Shah, deputy chief emerging markets economist at Capital Economics, told the outlet while India has had some growth in increasing its share of global high-end electronics exports “it has failed to capture any additional market share in the lower-end manufactured goods, which are typically more labor-intensive.”

Shah added that Chinese firms have made these goods more capital intensive – which has made it harder for Indian firms to compete.

When it comes to social and political reforms, Modi is eyeing implementing the Uniform Civil Code and One Nation, One Election.

 What do experts say?

 Experts have said Modi faces a far more uphill battle this time when it comes to passing reforms.

A piece in Deccan Herald said the NDA’s majority of 330 during Modi’s second term made sure economic bills and farm laws were pushed through quickly.

“However, now that the NDA is below 300 seats, the Bharatiya Janata Party itself below the halfway mark and coming in at 240 seats, and the INDI alliance at 234 seats, the Prime Minister and his cabinet will find that implementing promised economic reforms and business-friendly measures will become that much more complicated,” the piece contended.

It said that every policy pitch will now be examined more carefully both in Parliament and in the ‘court of public opinion’.

“In that context, what are known as factor reforms - land, labour, capital - and will largely require Parliamentary nod, may not be as easy to implement,” the piece stated.

But others beg to differ.

A piece in Business Standard stated that though the Modi 3.0 government will be dependent on its allies, it cited the performance of past coalition governments to argue that may not “sound the death knell for economic reforms.”

Indeed, the Indian Express noted that coalition governments have carried out “some of the boldest and most visionary reforms.”

It cited the myriad reforms of the PV Narasimha Rao-led government including getting rid of centralised planning, liberalising the economy and removing licence raj.

The piece also pointed to then finance minister P Chidambaram under the brief Deve Gowda government bringing out the ‘dream budget.’

Moody’s Ratings on Wednesday said the BJP-led National Democratic Alliance’s (NDA) slim majority in Lok Sabha may delay more far-reaching economic and fiscal reforms that could impede progress on fiscal consolidation,

“We expect policy continuity, especially with regards to budgetary emphasis on infrastructure spending and boosting domestic manufacturing, to support robust economic growth.

“However, the NDA’s relatively slim margin of victory, as well as the BJP’s loss of its outright majority in parliament, may delay more far-reaching economic and fiscal reforms that could impede progress on fiscal consolidation,” Moody’s said in a note.

‘Changed circumstances’

Emkay said Prime Minister Narendra Modi retaining power in the general elections under “changed circumstances” will make the implementation of critical reforms challenging.

“It is likely that Narendra Modi will return as PM for a third term. However, he will have to contend with changed circumstances,” a note from the domestic brokerage Emkay said, adding that the broad direction of the economic policy is unlikely to change.

Seeming to concur on the same, analysts at Swiss brokerage UBS said it expects the government to push supply-side reforms, including manufacturing, simplification of regulatory processes, labour law implementation, skill development and creating employment opportunities.

“However, we think implementation of tougher reforms, including land reforms, a big boost to infrastructure spending, divestment, farm bills, Uniform Civil Code, One Nation One Elections amongst others will be challenging,” it said.

The note from Emkay also said that market reforms like those related to land, agriculture, and labour are now “off the table”.

Privatisation and asset monetisation are also at risk, which could drag government capex in the short term, it added.

“A narrow margin victory for the BJP… could lead to faster required reforms which will further support India’s growth story,” private sector lender RBL Bank’s Achala Jethmalani said.

Emkay said the BJP will be dependent on regional allies like Telugu Desam Party and Janata Dal (United), and will have to make policy adjustments accordingly.

Also, there will be greater demand to stimulate consumption in the economy from both the BJP and allies, it added.

 ‘India story intact, but big bang reforms on backburner’

 Experts said that the stock market on Tuesday crashed because of exit polls created expectations of a big win.

They reiterated that the India story is intact from a medium- to long-term perspective.

Domestic brokerage HDFC Securities’ Managing Director Dhiraj Relli told PTI that with a seat tally of about 240 seats with the BJP and under 300 for the extended NDA, Prime Minister Narendra Modi will not be able to carry forward reforms on land, labour, and agriculture.

The progressive steps on such critical aspects will “go on the backburner”, Relli said. He was also quick to add that this will not directly impact the capital markets.

The new government, most likely to be an NDA-led coalition, will have to forego the “intensity” of implementing the promises made in the manifesto, he said, adding that Tuesday’s 5.74 per cent fall in the benchmark was a “knee-jerk” reaction after the euphoria created by the exit polls, which showed Modi regime continuing with over 350 seats.

A Balasubramanian, the Managing Director and Chief Executive of Aditya Birla Sun Life AMC, concurred saying the poll outcome came as a surprise for investors who were expecting a comfortable win for Modi. He told PTI that the change in power dynamics will have to be watched closely, and stressed that the equity market’s reaction to the results should not make anyone doubt the India story, which remains intact from a medium- to long-term perspective.

Balasubramanian said from a mutual fund perspective, there will be decent fund flows in June despite the negative sentiment which is built in and advised investors to stick to disciplined approach rather than worry about timing the market.

Investors like continuity in policies, but the short-term volatility in the market should be considered as an opportunity to build the portfolio, Manish Jain, director of institutional business at Mirae Asset Capital Markets, said.

“The election results are showing a less than halfway mark for the current BJP government, pointing towards a coalition government. This will lead to dependence on allies in making key policy decisions, and sharing certain cabinet seats, which will lead to policy paralysis and uncertainty in the government’s functioning,” Yashovardhan Khemka, Senior Manager, Research & Analytics at Abans Holdings, said.

The markets are pricing the risk associated with this scenario, and the potential impact of a shift toward socialist policies by the government, thus leading to sell-off in the market, Yashovardhan Khemka, Senior Manager, Research & Analytics at Abans Holdings, said.

“The future trajectory of the market depends on the new government’s economic policies, with factors like GDP growth, inflation, and global conditions playing a key role,” Hedonova CIO Suman Bannerjee said.

With inputs from agencies