While the Indian economy has probably bottomed out after the major disruptions from demonetisation and GST, GDP growth is nowhere close to the peak levels of 10%. In fact, even a 9% growth looks a long shot now given how investment is stagnating and consumption slowing. As Citibank economist Samiran Chakraborty and his team point out, if India enjoyed an average GDP growth of 8.3% between FY04 and FY11, it was largely driven by annual increases in investment of close to 15% annually during the period. So if India is looking to grow by about 8% plus, investments must kick in growing at 10% plus and moreover, labour productivity needs to improve by 6% plus —as compared to 4.3% last year—while the overall efficiency of production or total factor productivity would need to go up by 3% plus.
Unfortunately, post FY11 investment started moderating, with the growth averaging 3.4% between FY12 and FY 17. With much of corporate India over-leveraged and having adequate production capacity—Reserve Bank of India data shows there is about 25% of unutilised capacity—there’s little incentive to expand the business. This is especially so at a time when consumption trends aren’t encouraging; private consumption has actually slowed over the four quarters to Q2FY18. Chakraborty lists six catalysts that could spur investments: dissipating headwinds of corporate leverage, resolution of NPAs, supportive global conditions, low and stable interest regime, the return of profitability and animal spirits and finally sustained reforms.
To be sure, corporate balance sheets may be looking better but not meaningfully so and it could take another two to three years before cash flows stabilise and firms contemplate any expansion. Large telecom players, who spend $2-3 billion annually on maintenance capex are pruning their outlays. The more profitable and cash-rich business houses—the Birlas or Tatas, for instance—are buying out capacities from other industrialists and, therefore, investments are not creating either fresh capacity or jobs. While the NPAs are being resolved, the process will leave several business groups bankrupt and without credibility; it will require a set of new entrepreneurs to lead a new investment cycle. Moreover, lenders will be doubly cautious this time around and will insist on high quality equity from promoters. Apart from some top firms such as Reliance Industries or a Maruti Suzuki, not too many firms are actually setting up projects.
While the uptick in global growth is an opportunity, unfortunately, so far, India hasn’t been able to take advantage of it, not only because the currency has been strong but also because there’s inadequate infrastructure and India’s wages are uncompetitive. Reforms in the area of labour, critical for growth, remain slow as are reforms relating to land. While a stable interest rate regime no doubt helps, businessmen invest if they are confident of the demand outlook. In the current context, consumer demand, while growing at a reasonable pace, isn’t exactly surging because not enough jobs are being created. The government’s rural push should boost rural incomes in 2018-19 and a third consecutive good monsoon would also help. But with the real estate and construction sectors in a slump, and urban India not generating that much employment, it’s hard to see consumption grow at a very fast pace. Also, as Chakraborty points out, unless labour productivity improves and production becomes more efficient, growth cannot sustain at 8%-plus.