Risk #9: India

Note: Today is the ninth in a series of posts that detail Eurasia Group’s Top Risks for 2013

With slow growth, persistent inflation, and large fiscal and current account deficits, India desperately needs to implement a range of economic reforms. But due to its own shortcomings and a constraining political environment, the ability of the Congress party-led United Progressive Alliance to tackle structural problems is limited — and will wane further in the run-up to national elections.

Elections are due by May 2014, and the Congress party is scrambling to shore up its popularity in the wake of high-profile corruption scandals. Other coalition members and issue-based supporters, sensing weakness, will try their hardest to extract political concessions from the Congress while the opposition Bharatiya Janata Party (BJP) will likely remain relentlessly obstructionist in its quest to regain power.

Consequently, parliamentary gridlock will persist, with only minor administrative reforms politically feasible in 2013. P. Chimdambaram’s return as finance minister in July 2012 has buoyed foreign investor confidence and market sentiment, but he needs to make deep, politically difficult spending cuts to improve India’s chance of averting a sovereign credit downgrade to junk status.

And parliamentary elections are not likely to lead to an improved policymaking environment. Like the Congress party, the BJP is in the throes of a prolonged leadership transition and has been largely unable to capitalize on the decline in public support for Congress. This leadership vacuum has enhanced the influence of swing regional and state parties. Elections will likely result in a hung parliament and an even more unstable coalition that will be capable of approving only lowest-common-denominator policies.

Growth will improve in 2013 but India will likely miss its fiscal deficit targets of 5.3 percent of GDP for fiscal year 2012-2013, and 4.8 percent for fiscal year 2013-2014, without substantial subsidy cuts unprecedented in an election year budget.

Expectations for India’s performance in 2013 are limited. While it can hope to accomplish just enough on fiscal policy and economic reforms to avoid a sovereign downgrade, India will make negligible progress on structural problems that have long vexed its economy.

On Wednesday, we’ll profile Risk #10: South Africa.