India Amidst World’s Economic Whirlwind

On two occasions in early June, finance minister Nirmala Sitharaman assured the country about the economy’s growth outlook and fundamentals. On June 6, in a meeting of BRICS finance ministers and central bank governors, she said India’s growth will continue to be supported by “fiscal spending along with an investment push.” Two days later, on June 8, while speaking at a finance ministry event, she referred to “sound” macroeconomic fundamentals, attributing them to reforms by NDA government since 2014. “Major steps by government before the Covid-19 pandemic hit us, which include reducing corporate tax rate, ensuring that economy is greatly digitised, bringing in GST (goods and services tax) and IBC (Insolvency and Bankruptcy Code), all this heavy-lifting prepared us for the unprecedented situation of the pandemic,” she said.

The statements came in the backdrop of a wilting global economy due to skyrocketing inflation, rising interest rates, supply-chain disruptions and soaring prices of energy due to Russia-Ukraine war — a concoction of every possible macroeconomic malaise, which triggered murmurs that a global recession is inevitable. A 1.4% GDP contraction in first quarter (January-March) in US, followed by 0.9% contraction in second quarter, a sharp reversal from annual growth rate of 6.9% in fourth quarter of CY21, aggravated these fears. With high inflation and interest rates becoming a norm globally, all major economies are facing the heat. Germany registered 0.2% sequential growth in Q1 of 2022. Economic growth in Organization for Economic Co-operation and Development (OECD) region dipped to 0.1% in Q1 of 2022, compared with 1.2% in Q4 of 2021. Economy of G7 nations contracted 0.1% in Q1. It had grown 1.2% in Q4 of 2021. Italy grew by 0.1%, Japan registered a contraction of 0.5%, while France witnessed zero growth in Q1, 2022. Warning of stagflation risks, World Bank has cut global CY22 GDP growth forecast to 2.9%, from 5.7% in CY21. In January, it had projected 4.1% growth, and in April revised that to 3.2%. OECD has pared 2022 global GDP growth projection from 4.5% to 3%. IMF, too, has cut the global GDP forecast for 2022 to 3.2% from 3.6%.

India: Are Recession, Stagflation Imminent?

The Indian economy surpassed pre-Covid levels in FY22 by growing 8.7%. According to ministry of statistics and programme implementation, the size of the Indian economy at constant prices was ₹147.36 lakh crore in FY22, from ₹135.59 lakh crore in FY21. But that’s deceptive. Growth is just 1.1% over FY20 GDP of ₹145.69 lakh crore. Remember FY20 was also a slowdown year when GDP growth had almost halved to 3.7% from 6.8% in FY19.

India will also face ripple effects of any global slowdown, but economists rule out recession or stagflation even though they say that there is probability of a general slowdown. “For now, it does not seem that India is facing the risk of recession or stagflation just because US or other developed markets are going to face it,” says Suvodeep Rakshit, senior economist at Kotak Institutional Equities. A sector-specific slowdown is more likely, he says.

“Recession in India this fiscal is certainly a low probability event,” says Crisil principal economist Dipti Deshpande. “Global events will naturally impact India through weaker export demand, but Indian economy continues to be predominantly domestic-driven. This fiscal, we expect support to growth from two areas — revival in contact-based services sector, which will provide a one-time lift as fear of Covid-19 subsides, and continued thrust on government capex,” says Deshpande. “Downsides to Crisil's FY23 GDP growth projection of 7.3%, from 7.8% earlier, remain on account of slower global growth, higher input costs that manufacturers face and some weakness in demand as inflation remains high,” says Deshpande.

Ratings agency ICRA expects 7.2% GDP growth in FY23 from 8% earlier. It says real GDP growth in first quarter may be 12-13% due to improvement in business activity and favourable base effect. The agency, however, warns that the growth rate will slip into single digits in subsequent quarters due to high inflation and interest rates. ICRA’s business activity monitor, which covers 14 industrial and services sectors, stood at 115.7 in April, the second-highest in 13 months.

Fitch Ratings has also lowered FY23 growth forecast from 8.5% to 7.8% and World Bank from 8% to 7.5%.

The Micro Story

Even though the impact of global developments on headline GDP growth number is a given, some encouraging trends on the micro front show inherent strengths of the Indian economy. One has to look at credit growth, GST revenues, toll collections, e-way bill data and capacity utilisation rates to realise the economy, while facing risks, is alive and kicking (see Silver Linings). Bank credit, for example, grew 13.1% year-on-year (YoY) to ₹12,14,000 crore in fortnight ended June 3.

The question is, with reversal of the interest rate cycle, will the momentum sustain? Rakshit says we have seen peaks way above current levels. “Repo rate is at 4.90%. It was 5.15% before the pandemic. The peak rate before the pandemic was around 6%. We are significantly below that level even with the (recent) rate hikes. Rising rates are not a cause of concern because most of the pandemic excess (liquidity) needs to be taken away,” says Rakshit.

Capacity utilisation numbers are also encouraging. “Going by our surveys, capacity utilisation in the manufacturing sector increased to 74.5% in Q4 FY22 from 72.4% in Q3 FY22. It is likely to increase further in FY23. Investment activity is thus expected to strengthen, driven by rising capacity utilisation, government’s capex push and deleveraging of corporate balance sheets. Improvement in investment is reflected in pick-up in demand for bank credit and persisting growth in imports of capital goods,” RBI Governor Shaktikanta Das said in the monetary policy statement on June 8. Finance ministry agrees. “The pick-up in industrial activity has been further captured in rising levels of PMI (manufacturing) which, together with similarly strongly placed PMI (services), boosted the composite PMI to 58.3 in May 2022, the highest in 18 months,” says the ministry’s monthly economic report.

On GST front, collections rose 44% to ₹1,40,885 crore in June compared with ₹97,821 crore in same month last year. One reason is high inflation, but e-way bill registrations also point to increased volumes and, therefore, higher consumption. E-way bills stood at 73.62 million in May 2022, the third-highest since the system was rolled out in 2018 and up 84% year-on-year.

Some other high-frequency data also suggests economic recovery. IIP-consumer durable goods rose from 133 in March 2021 to 149.9 in April this year. Kotak Institutional Securities says that the Indian housing market has seen some recovery over past year with aggregate sales in five major markets — Bengaluru, Chennai, MMR, NCR and Pune — increasing 23% over FY20-22.

The Challenges

Green shoots are visible, but so are challenges. The biggest is fiscal management. Finance ministry’s May economic report talks about twin deficits. “As government revenues take a hit following cut in excise on diesel and petrol, an upside risk to budgeted gross fiscal deficit has emerged. Increase in fiscal deficit may cause the current account deficit to widen, compounding the effect of costlier imports. That will weaken the rupee, further aggravating external imbalances, creating the risk (admittedly low, at this time) of a cycle of wider deficits and weaker currency,” it says. Rupee touched record lows in July and at the time of going to the press was trading at 79.4 per US dollar. It has fallen almost 6% against the greenback this year.

Also, unlike other economies, inflation in India is largely a result of supply-side challenges, and using monetary policy to control it may be counter- productive at a time growth impulses in economy hint at buoyant credit demand. The government, meanwhile, will have to do a tight-rope walk between stability and growth. That said, North Block has taken steps to increase revenues to make up for excise cuts on fuel and rise in fertiliser subsidy as a result of Russia-Ukraine war. It has increased Customs duty on gold from 10.75% to 15%. It has also imposed ₹6 per litre tax on petrol and ATF exports and ₹13 per litre on diesel exports. Additionally, a ₹23,250 per tonne cess has been levied on crude oil produced domestically. The windfall tax on oil firms will help it earn ₹94,800 crore, according to Moody’s Investor’s Services. RBI, on its part, has also taken measures to liberalise foreign exchange inflows to curb volatility in the currency market.

As Russia-Ukraine war continues and upwards price spiral in major economies shows no sign of cooling off, both North Block and Mint Road will have to ensure the right symphony between fiscal and monetary chords as India needs growth as much as it needs macroeconomic stability.