Is a time-frame of less than 2 years enough for a country to move out of the club of the “fragile five” (Turkey, Brazil, India, South Africa and Indonesia) and be counted amongst one of the most promising growth destinations globally? The answer is yes, and the country is India. The Indian economy, which was reeling under the burden of twin deficit—falling rupee and high/stubborn inflation—by mid-2013, is today at the cusp of a new dawn. With inflation down, rupee stabilised, fiscal and the current account deficit no longer posing a threat, clearly the worst is over. The icing on the cake is political stability after the parliamentary elections of 2014. According to IMF, Indian economic growth will overtake Chinese in 2016.
The Indian economy, after two consecutive years of sub-5% growth is expected to grow by 5.6% in FY15. No doubt, signs of the recovery are visible, but it will be gradual. A sharp decline in global crude prices, in particular, and lower commodity prices, in general, are big positives for India. The government is expected to save about R250 billion in oil subsidy. Simultaneously, the increase in excise on petrol and diesel so far is expected to generate R200 billion in revenue. Yet, the fiscal deficit in FY15 is likely to overshoot its target, of 4.1% of GDP, for the fiscal due to low revenue growth and slippages on the disinvestment front. However, a cut in Plan expenditure, similar to last two years, could again do the trick this fiscal. Decline in oil prices has also improved the inflation outlook. RBI on January 15, 2015, cut the repo rate by 25 bps.
On the external front, however, the picture is not so rosy. The hope of exports growth recovering to 8-10% has faded due to weak and uneven global recovery. The World Trade Organization (WTO) has cut its 2014 global trade growth forecast to 3.1% (earlier estimate of 4.7%) and expects it to grow at 4% in 2015.
In sum, there are both positives and negatives. However, because India is primarily a domestic demand driven economy the economic outlook for FY16 would depend a lot more on how the government supports, intervenes and steers the economy here on.
Economic growth in FY16 is likely to improve to 6.5% mainly due to the improvement in the industrial growth performance (6.5%). Declining inflation will have a positive impact on industrial recovery via increased consumption demand. Although both domestic and external demand are likely to provide support to industrial recovery, the major support will come from the domestic demand. A number of announcements made in the FY15 budget to address the structural issues plaguing industrial and infrastructure sector are expected to gather pace in FY16 besides a few more likely to be announced in the FY16 budget. Also, the government’s focus on Make-in-India and improving the ‘ease of doing business’ will aid the manufacturing/industrial growth. However, getting back to the industrial growth witnessed during FY06-FY08 (average growth: 10.5%) will require a couple of years, provided concerted policy support from the government continues.
Services sector growth is governed by both domestic and global factors. The sector is expected to perform well in FY16. Some improvement in global growth and recovery in industrial growth will drive the services sector to grow 7.4% in FY16 (FY15: 7.3%). The performance of trade, hotels and restaurants, and transport, storage and communication sectors are expected to improve in FY16. Loss of growth momentum in commodity-producing sectors had adversely impacted transport and storage sectors over the past two years. The financing, insurance, real estate and business services sectors are also expected to continue their good run in FY16. The growth performance of the community, social and personal services sector is directly linked with government expenditure and we believe that the government will remain committed to fiscal consolidation in FY16.
Under the condition of a normal monsoon, agriculture in FY16 is expected to grow 2% (below-par monsoon in 2014 will have some impact on FY15 agricultural GDP). The rabi (winter) crops were sown on 56.6 million hectare (ha) as on January 9, 2015. This is lower as compared to the 59.7 million ha sown a year ago. Sown area under all major crops, such as wheat, pulses and oilseeds in FY15 is lower than FY14.
RBI’s household survey shows that both near-term and longer-term expectations have eased to single digits for the first time since September 2009. Although inflation is expected to remain soft in the near-term, it will take a while for consumers to start spending again. Private final consumption is therefore expected to grow at 5.9% in FY16.
Although slowdown in investments cannot be attributed to just the hardening of interest rates, it is one of the factors that impacts investment activity. With inflation declining, interest rates are expected to come down in FY16. Based on the government’s fiscal consolidation plan and its achievability, RBI may ease the repo rate by another 75 bps in FY16. This, coupled with the rise in business confidence and various policy initiatives taken by the government, is expected to push investment growth to 7.1% in FY16. The fate of the economy since FY05 has been strongly correlated with investments. As investments grew 11.6% on average over FY05-FY12, GDP clocked an average growth of 8.5%. With the investment growth falling to 2.4% and -2.5% in FY13 and FY14, respectively, GDP growth dwindled to below 5%. The key reason for the rise in investment growth over FY05-FY08 was a sharp increase in investments by the private corporate sector. This, however, declined to 3.4% over FY09-FY13 from 48.1% over FY05-FY08.
Industrial recovery and decline in subsidy are expected to help government close FY16 with a fiscal deficit of 3.9% of GDP. Because much of the fiscal consolidation in the recent past has been attained by cutting the plan expenditure, it has adversely impacted the growth prospect of the economy over the medium-term. The key fiscal issue facing the government today is a low revenue base and high committed expenditure.
Interest servicing alone accounted for 36.9% of the total revenue receipts of the central government in FY14 (revised estimate). To achieve debt/revenue similar to the ‘BBB’ peer group’s median, India will have to at least double its revenue given its debt level. If revenue grows faster than expenditure, it will not only lower the fiscal deficit but also reduce (and bring closer to ‘BBB’ peer group’s median) the interest pay out/revenue leading to a reduction in current expenditure rigidity. This will help the government spend more on creating physical infrastructure such as roads, power, irrigation, education, health, etc.
By Sunil Kumar Sinha & Devendra Kumar Pant
Apurva Yadav, senior research associate, Ind-Ra, contributed to this article
Sinha is principal economist and Pant is chief economist, India Ratings and Research (Ind-Ra). This article is based on Ind-Ra’s FY16 economic outlook