Rate of GDP growth will slow down further to 8 per cent
The rate of GDP growth will slow down further to eight per cent in the current financial year, says Sonal Varma.
First, the bad news. After four consecutive quarters of above-trend growth, India's real gross domestic product, or GDP, growth moderated to 7.8 per cent year-on-year, or Y-O-Y, in January-March 2011, down from 8.3 per cent in October-December 2010, suggesting that the Indian economy is slowing. A near-halt in fixed investment growth was the primary reason for the slowdown. The lagged effect of the industrial slowdown also appears to be hurting the services sector.
Consumption remains the primary GDP growth driver. Though growth in private consumption moderated to eight per cent Y-O-Y in January-March 2011, it remains robust due to growth in disposable income. However, the good news: strong global demand has helped exports growth outpace that of imports. Net exports have become a key driver of growth. Private consumption and exports together contributed 84 per cent of GDP growth in January-March 2011.
One of the reasons why inflation has remained high is that the consumption-investment gap is widening. Many indicators suggest that this slowdown is not over. High inflation, rising interest rates, rising concerns about global growth and supply-chain disruptions because of the crises in Japan are likely to continue to weigh on business confidence and economic activity. The lagged effect of weak manufacturing output may also affect demand for trade, financing and other business services. While consumption has been strong so far, rising interest rates may slow discretionary purchases. These factors are likely to result in real GDP growth remaining below eight per cent in the next two quarters.
Encouragingly, there are indications this slowdown may be a temporary soft patch, with a pick-up in growth likely from October-December 2011. Easing supply-chain disruptions, faster government decision-making after the Cabinet reshuffle and easing inflation should eventually result in a pick-up in non-agriculture GDP growth. Already, there are signs the industrial cycle may be bottoming out. Exports have been growing at around 40 per cent Y-O-Y for over six months and this should benefit production in the fast-growing export sectors such as agricultural goods, chemicals, metals and engineering. Demand for consumer non-durables should remain buoyant due to increased government spending in rural areas and rising rural purchasing power.
Infrastructure sector output growth has inched higher, led by increased activity in the power, steel and petroleum refinery segments, reflecting increased capacity additions. Investment remains sluggish, but this could change. Non-oil import growth and approvals for external commercial borrowing are already picking up and with state elections out of the way, government decisionmaking and project-awarding activity should incrementally improve. These factors suggest that industrial output growth will rebound, but it is likely to be a sub-par recovery compared to previous ones due to rising finance costs. A pick-up in the industrial cycle will also have a positive effect on demand for services. Trade, transportation, banking and other financial services should improve as the industrial cycle gains traction.
Overall, we expect real GDP growth to slow to eight per cent Y-O-Y in the year ending March 2012, from 8.5 per cent in the previous fiscal year.
The current environment of high growth/high inflation is unsustainable. The fast pace of economic growth over 2004-07 was the fruit of years of reforms. However, even as consumption has risen, India's ability to sustain this potential is limited by capacity constraints. These constraints include labour shortage, the neglected state of infrastructure and restricted supply of other natural resources such as coal and gas. These constraints limit the speed of economy; and unless they are addressed, the rise in consumption demand cannot be sustained as it will trigger higher inflation, resulting in tight monetary policy that will threaten a boom-bust economic cycle. Slower growth now is a preferred alternative to boom-bust cycles, which can result in a substantial loss of economic output in the long run.
The author is Executive Director and India Economist at Nomura Financial Advisory and Securities
Consumption remains the primary GDP growth driver. Though growth in private consumption moderated to eight per cent Y-O-Y in January-March 2011, it remains robust due to growth in disposable income. However, the good news: strong global demand has helped exports growth outpace that of imports. Net exports have become a key driver of growth. Private consumption and exports together contributed 84 per cent of GDP growth in January-March 2011.
One of the reasons why inflation has remained high is that the consumption-investment gap is widening. Many indicators suggest that this slowdown is not over. High inflation, rising interest rates, rising concerns about global growth and supply-chain disruptions because of the crises in Japan are likely to continue to weigh on business confidence and economic activity. The lagged effect of weak manufacturing output may also affect demand for trade, financing and other business services. While consumption has been strong so far, rising interest rates may slow discretionary purchases. These factors are likely to result in real GDP growth remaining below eight per cent in the next two quarters.
Encouragingly, there are indications this slowdown may be a temporary soft patch, with a pick-up in growth likely from October-December 2011. Easing supply-chain disruptions, faster government decision-making after the Cabinet reshuffle and easing inflation should eventually result in a pick-up in non-agriculture GDP growth. Already, there are signs the industrial cycle may be bottoming out. Exports have been growing at around 40 per cent Y-O-Y for over six months and this should benefit production in the fast-growing export sectors such as agricultural goods, chemicals, metals and engineering. Demand for consumer non-durables should remain buoyant due to increased government spending in rural areas and rising rural purchasing power.
Infrastructure sector output growth has inched higher, led by increased activity in the power, steel and petroleum refinery segments, reflecting increased capacity additions. Investment remains sluggish, but this could change. Non-oil import growth and approvals for external commercial borrowing are already picking up and with state elections out of the way, government decisionmaking and project-awarding activity should incrementally improve. These factors suggest that industrial output growth will rebound, but it is likely to be a sub-par recovery compared to previous ones due to rising finance costs. A pick-up in the industrial cycle will also have a positive effect on demand for services. Trade, transportation, banking and other financial services should improve as the industrial cycle gains traction.
Overall, we expect real GDP growth to slow to eight per cent Y-O-Y in the year ending March 2012, from 8.5 per cent in the previous fiscal year.
The current environment of high growth/high inflation is unsustainable. The fast pace of economic growth over 2004-07 was the fruit of years of reforms. However, even as consumption has risen, India's ability to sustain this potential is limited by capacity constraints. These constraints include labour shortage, the neglected state of infrastructure and restricted supply of other natural resources such as coal and gas. These constraints limit the speed of economy; and unless they are addressed, the rise in consumption demand cannot be sustained as it will trigger higher inflation, resulting in tight monetary policy that will threaten a boom-bust economic cycle. Slower growth now is a preferred alternative to boom-bust cycles, which can result in a substantial loss of economic output in the long run.
The author is Executive Director and India Economist at Nomura Financial Advisory and Securities
