The steady revival of the Indian economy is likely to fizzle out. The debt crisis of Europe has now loomed large as the global recovery is based on unprecedented fiscal and monetary stimulus for corporate business in the first phase of the crisis. The governments and central banks tried by these measures to prevent their economies from imploding. In the process, private debt, which had clearly risen to an unsustainable level, was converted into public debt. The hope was that since private demand for credit was still low, the massive government borrowing would not push up interest rates. This has proved to be a false hope as in Greece, Portugal and other European countries, investors are now demanding much higher interest rates to buy bonds, because debts run up by governments are now unsustainable. Harsh austerity measures are, therefore, being forced on to bring down their fiscal deficits.

Recent economic data out of the US has not been very robust either and several hopeful indicators of revival have failed to fructify. Weakness in the housing market persists. In China, the government has been trying to cool down the over-heated property market and curbing bank lending. Behind all this looms the threat of financial market regulation, which will add to the cost of credit. In short, financial markets are grappling with a very high degree of uncertainty and this is reflected not just in the equity markets, but also in commodity and credit markets. The second half of 2010 is turning to be like the first half of 2009. But even the $1 trillion bailout package cobbled together by the European Union and the International Monetary Fund to stem the Greek contagion has not restored confidence in other countries.

Crises such as those recently endured were initially driven by excessive debt and leverage among households, private banks and financial institutions or corporate firms. This eventually led to a releveraging of the public sector as fiscal stimulus and socialization of private losses--bailout programmes. This has caused a dangerous rise in budget deficits and the increase in public debt. While fiscal stimulus and bailouts may have been necessary to prevent the Great Recession from turning into Great Depression II, piling public debt on top of private debt carries a high cost. Eventually large deficits and debts need to be reduced through higher taxes and lower spending, and such austerity is necessary to avoid fiscal crisis. But these measures tend to slow economic recovery. If fiscal imbalances are not addressed through spending cuts and revenue increases, only two options remain: inflation for countries that borrow in their own currency and can monetise their deficits; or default for countries that borrow in a foreign currency or can't print their own.

Thus, the recent events in Greece, Portugal, Ireland, Italy and Spain are but the second stage of the global financial crisis. The socialization of private losses and fiscal laxity aimed at stimulating economies in a slump have led to a dangerous build-up of public budget deficits and debt. So the global financial crisis is not over; it has, instead, reached a new and more dangerous stage.

The scale of bailouts is mushrooming. During the Asian financial crisis of 1997-98, South Korea — a relatively large emerging market economy — received what was then considered a very large International Monetary Fund, or IMF, rescue package — $10 billion. A billion dollars used to be a lot of money; now one trillion is the “new normal”.

While the right medicine needed to avoid fiscal train wrecks is well known, the main constraint to fiscal consolidation and discipline is that weak governments around the world lack the political power and willingness to implement austerity. Political gridlock in Washington and in the US Congress demonstrates the absence of the bipartisanship needed to address US fiscal issues. In the UK, a “hung“ parliament has resulted in a coalition government that will have a hard time implementing fiscal discipline.

In Germany, Chancellor Angela Merkel lost a key state election after the rescue of Greece, and Japan has a weak and ineffectual government that seems in denial of the scale of the problem that it faces. In Greece itself, there are riots in the streets and strikes in the factories; in the rest of the PIIGS (Portugal, Ireland, Italy and Spain), fiscal discipline will be politically and socially painful. So political constraints may prevent fiscal austerity and structural reforms from being implemented. Thus the financial crisis is not over and, worse, the medicine used to treat it may turn out to be partly toxic. It seems to have made the patient weaker and more addicted to dangerous drugs, as well as more susceptible to new strains of the virus that may, in some cases, eventually prove fatal. Such a state of affairs leads to authoritarian governance and repressive measures against popular protest and unrest.

In the context of the deepening economic crisis in the developed capitalist countries, India requires radical review and revision of its economic policy and management to reforge its economic, political, cultural and strategic ties within the country and with other developing countries, in particular G-15 rather then the crisis stricken G-7 of the developed capitalist countries. One should take seriously the warning of Nobel prize winner, Joseph Stiglitz that the crisis in the developed countries is a long term one and India would be well advised to put off liberalisation of its capital market in the hope of large scale inflow of foreign capital to finance its economic growth ambitions.

India should indeed pursue growth based on the domestic efforts to raise financial resources, labour and market demand, rather than opening its market for foreign investment, transfer of manufacturing by multinational corporation and retail trade by foreign supplier which is bound to cater to the interest and demand of a small upper stratum of population. This is precisely what the so-called economic reform agenda of the UPA-II government is and will only result in mass discontent and unrest rather than steady, sustainable and equitable economic growth. (IPA Service)