The financial industry and economic experts have always complained that the quality and availability of economic data from India leaves much to be desired. In an age, where data has become a critical component of decision making, the importance of timely release of good quality multi speed economic data is key in economic planning and asset valuation. In that regard the new GDP series has raised more questions than it has attempted to solve.
The objective behind the recent revision to the way GDP is computed in India is acceptable. CSO decided to change the database for calculating GDP. The new GDP incorporates more comprehensive data on corporate activity than the old one. Earlier, data from the Annual Survey of Industries (ASI), which comprises over two lakh factories, was used to gauge activity in the manufacturing sector.
Now, annual accounts of companies filed with the Ministry of Corporate Affairs have been used. This is said to include around five lakh companies, bringing in more companies from the unlisted and informal sectors. Two, until now, the manufacturing data was compiled factory-wise. Now, activity at the enterprise-level is taken. This means selling and marketing expenses are also reckoned, instead of just production costs. At the same time, we have moved away from computing GDP, away from factor cost to the global standard for value added methodology.
Under the old method, GDP was calculated at factor cost; now it will be done at gross value added at basic prices. To understand the difference, let us look at it from the producers’ point of view. For a producer, GDP at factor cost represents what he gets from the industrial activity. This can be broken down into various components — wages, profits, rents and capital — also commonly known as factors of production. Apart from these costs, producers may also incur a lot of expenses on statutory dues and taxes. Similarly, producers may also receive input subsidies. It is important to note that only taxes and subsidies on intermediate inputs are adjusted. Now, in order to arrive at gross value added (GVA) at basic prices, production taxes, such as property tax, are added and subsidies are subtracted from GDP at factor cost.
As we await the 10 year quaterly history from CSO of GDP components, based on new method, to be able to make historical trend analyis, one cannot help but express bewilderment at the trend of GDP in the new series. If we jog our memory on economic growth in India post 2008 meltdown, we find that economic growth had rebounded very strongly during the years of 2009 and 2010 and it was evident in various surveys and even many anecdotal evidences.
The global co-ordinated monetary and fiscal pump priming had caused a significant jump in global and Indian economic growth. In India, growth started to roll over in 2011, as effects of stimulus began to wane. Therefore, one can easily conclude that almost all of the key economic indicators in India would show a peak growth during 2010-11. Infact, it was the case in GDP old series. At the same time, economic growth showed signs of bottoming sometime last year. Therefore, a trend analysis of GDP growth should paint a picture where growth rate peaked between 2010-2011 and then troughed somewhere around 2014. However, what we find in the new series is exact opposite. In the new series of GDP, growth troughed in 2011 and surged to its peak last year. How can a trend of GDP be so baffling that it follows a path which is divergent to true economic performance.
Over the past many months, we had issued warning about the danger of getting carried away in the economic recovery theme. We had outlined, why we believe the investment cycle will be slow to recover and the whole hard asset deflation and prudent monetary and fiscal policy can hurt a major part of our economy. Government has been quite pro-active in ensuring that clearances and policy impediments are swiftly removed so that investment can pick up in the economy. However, stretched balance sheets of corporates, poor health of financial sector and disciplined fiscal policy has slowed down financing of large ticket infrastructure projects. At the same time, economic slowdown in home and abroad have made corporates less forthcoming about bidding for fresh projects. Industry has been slow in doing capex, as utlitsation rates on existing capacity remains low. However, we believe improvement is occurring but the pace of improvement can be excruciatingly slow. If during the same time, another economic or financial crises blows over, then the pace could slow down even further.
We have to understand, that Indian economy is not a command and control economy of the socialist era, where government had the financial muscle and the economic clout to single handedly spearhead any investment and capex cycle, without paying much attention to immediate viability. Therefore, becoming impatient, is not the right approach. However, we do believe that if finding a speedy solution to the stress in the financial sector can help in improving the availability of finances in the economy, which can then have a positive impact on the demand and supply side of the Indian economy.
A challenging global economy is hurting our exports and sectors having price linkages with global assets, like industrial commodities. However, the grand experiment of the central banks, where in their illusion or belief that wealth effect can be manufactured, has created significant financial asset inflations. We have to remember that, a developed world central bank like US Fed has three major mandates: (i) price stability (ii) full employment (iii) financial stability. With the singular focus on first two, they may have sacrificed the future of their third mandate, financial stability. If asset prices are bid up much higher than dictated by economic logic, for longer and higher, then once the mean reversion process gets underway, the give back in growth can be quite large. In this regard we would urge our readers to refer to the excellent speech by Dr. Rajan, which you can find here:
Going Bust for Growth
We do not know, how long central banks can continue to pump prime asset prices. However, we sense a degree of asynchrony across the global financial markets. Volatility has not only increased but their moves have become asymmetric. A long period of slow motion decline in volatility is being punctured by episodes of sudden spike volatility. At the same time, liquidity is shrinking across asset classes and institution like BIS have been complaining about it for some time. (Shifting tides – market liquidity and market-making in fixed income instruments).
We believe, US Fed has role to play in that regard. Ever since 2009, US Fed had become the fairy godmother of global speculative community, they played a major role in under writing the speculative chase in financial and hard assets. US Dollar, due to its importance as the largest global currency, played a key role in that regard. However, with the advent of taper, US Fed for first time showed that it is willing to renege on that role. Now QE eternity is over and now there is talk of US going for interest rate hikes. Though one can argue that Bank of Japan and ECB may have become the alternative source to Fed. However, we have to admit that US Fed has disproportionate clout of global asset markets and it cannot be replaced effectively. Hence, it is no surprise that speculators realize that for US Fed to get back in the game of asset monetisation, the pain in financial markets and the economy has to be greater. This feeling is quite unsettling. Speculators feel like they have been taken away from the care of their fairy godmother and now placed into a foster care home run by ECB and BOJ.
Going forward, we expect volatility to remain high and thanks to falling liquidity in financial asset markets, sudden sharp moves can be the order of the day. Indian Rupee in that regard can remain in a volatile phase, but thanks to active intervention of the central banks it can remain bracketed between 63.00/63.30 and 64.50/65.00 levels over the medium term. Traders have the RBI policy to digest and the call is for a rate of 25 bps. With much of the expectations baked into local asset markets and Rupee, it might need a 50 bps or no cut, for the markets to react meaningfully.