Is consumption demand slowing on account of uncertain income opportunities? The first indications of slower growth in industry during the last fiscal came from the consumer durables sector. The index of production for this sector was in decline for much of the year. This is somewhat contrary to what was seen as buoyancy in the economy reflected in indicators such as tax collections and production of investment goods. This divergent behaviour of two major components of aggregate demand was surprising. It put a question mark on the assumed virtuous circle of more consumption demand, investment, income and demand?something in the middle had given way.
What was causing slower growth in consumption demand in the first place? Higher economic growth ought to have led to accelerated consumption demand. Among the factors that sustained growth, expansion of consumer credit was clearly quite significant. Consumer credit extended by banks as well as manufacturers to consumers, after a steady uptrend, underwent a squeeze. The sluggishness in automobile sector demand, specifically, can be traced to this factor. The impact of a global slowdown in output was not likely to have had such a significant impact on domestic consumption demand so quickly. Even export performance was not so sharply affected by the global slowdown for the year as a whole.
There may also have been a demographic factor that led to the earlier boom in demand for consumer durables, with larger numbers of younger people entering the workforce and/or witnessing rising incomes. All things considered, it is easier to explain the rise in consumption demand in recent years than last year?s deceleration. The traditional arguments of a middle-class market being much too narrow or a drop in rural demand are unlikely to offer satisfactory explanations for the shift in trend.
An important source of income that has become a growing mover of demand has been net invisibles in the external account. Remittances from abroad have stimulated both housing and consumption demand. Again, while this is an important explanation for the strong growth in demand seen in recent years, there does not appear to be a significant slower growth in this component of aggregate demand during last year.
It should be noted, however, that the data that is often used to monitor consumption is actually production data. Actual sales or consumption data is not so easily available. Further, the extent to which demand is met by imports is not easy to assess, except for some categories of goods. The strong rupee and freer imports over the year would have met demand which would be missed if we were to track merely production trends.
There is another factor that makes it harder to track demand conditions from production data. These figures typically reflect the quantity of production, and not necessarily the quality or value of products. This has two implications. One is that if prices are going up, then there may be higher sales realisation and consumer spending. Inflationary trends may have had an impact in terms of changing the composition of demand. The second is that there may be some shift from a larger number of lower-priced goods to fewer higher-priced goods in the shopping basket. This may also be a result of improvements in the quality of goods now available, as compared to the case earlier.
A slowdown in the growth of production of consumer goods may not, therefore, be entirely due to slower growth of income. Consumption spending may not have slowed down as much as what is reflected in production numbers. However, this does not offset the danger that slower consumer spending may accentuate the impact of a decline in export demand or investment demand.
How can demand be kept reasonably buoyant? Some of the fiscal measures could help: the Budget?s cutback on excise duties and Cenvat, changes in income tax rate slabs, and now the pay hike to Central government employees. Together, these should prevent demand for consumer durables from sliding sharply. Even rural demand may get a push because of the loan waiver. These anti-cyclical fiscal moves are quite well designed. Of course, what this does not address is whether consumer credit would also become as easy to access as before. It is not desirable that easy credit should drive demand if overall income growth is likely to lose some strength. Easy credit under even mildly tightening income conditions could spell trouble. This is obvious.
To stay on its growth path, India needs adjustments in spending and investment levels. The good news is that the fiscal measures and a good monsoon this year may offset some of the adverse effects of the global slowdown. Inflation needs to come down, too. Once that happens, sustaining growth in consumption demand will not prove such a stiff challenge.
Shashanka Bhide is senior research counsellor, NCAER. These are his personal views