India gets a growth shock

When he took over the reins of the government for a third consecutive term this summer, there were two key issues PM Narendra Modi had to address urgently—inflation and unemployment. They are believed to have cost his government a majority in the Lok Sabha election. However, five months into Modi 3.0, a third challenge seems to have surfaced—slowing economic growth—threatening to worsen the unemployment crisis.India’s gross domestic product (GDP) growth for the second quarter of FY25 was 5.4 per cent, down from 6.7 per cent in the first quarter and way below the 8.1 per cent in the second quarter of the previous fiscal. In fact, growth was the lowest in nearly two years. The weak performance in the second quarter could now drag India’s full-year growth below expectations, including Reserve Bank of India (RBI) estimates. Goldman Sachs has revised its FY25 growth projection from 6.5 per cent to 6 per cent, Barclays from 6.8 per cent to 6.5 per cent, ICRA from 7 per cent to 6.5-6.7 per cent and Bank of Baroda from 7.3-7.4 per cent to 6.6-6.8 per cent—all estimates that fall short of the RBI’s 7 per cent projection. It could mean a setback for the Modi government’s ambitions to have India, currently the world’s fastest-growing and fifth-largest economy, become the third largest behind the US and China by 2027. It just may take longer now.India’s chief economic advisor V. Anantha Nageswaran termed the latest data “disappointing”, but asserted that the situation wasn’t alarming. “India’s potential GDP growth is in the range of 6.5-7 per cent and we should be able to achieve it on the back of things that we have done already in the past 10 years—whether it is in terms of augmenting the physical infrastructure or achieving financial inclusion,” he said. THE FAULT LINES.preferred-source-banner{ margin-top: 10px; margin-bottom:10px;}The bleak growth numbers highlight several fault lines in the economy: a sharp slowdown in manufacturing, with growth plunging to just 2.2 per cent in the second quarter of FY25 from 14.3 per cent in the same period last fiscal; mining and quarrying, which slipped to a degrowth of -0.1 per cent from 1.1 per cent growth; and electricity, gas and other utility services, where growth decelerated to 3.3 per cent from 10.5 per cent. The manufacturing sector’s slower growth is attributed to sluggish exports. An economic slowdown in the developed world, coupled with the crisis in the Red Sea—where Iran-backed Houthi rebels have been disrupting trade—has impacted India’s merchandise exports, including petroleum products, textiles, chemicals, auto parts, and iron and steel. For instance, India exported petroleum products worth $31.8 billion (Rs 2.7 lakh crore) in April-August this year—down from $35.3 billion (Rs 3 lakh crore) in the same period last year. Meanwhile, rains disrupted mining. Cooler temperatures in many parts of the country due to a prolonged monsoon led to reduced power consumption.Another factor contributing to the decline in GDP growth was sluggish government spending. Government expenditure on capital goods tends to create a ripple effect, boosting the manufacturing sector, particularly industries like steel, cement and other construction materials. However, that was not the case in the second quarter. “The government’s capital spending has been little slower in the second quarter,” says Dharmakirti Joshi, chief economist with Crisil. “Only 37 per cent of the total budgeted amount for investment was spent in the first six months. Therefore, there is a need to push the second half harder.” Government capital expenditure—the funds spent by the central and state governments on assets like new equipment, machinery, land, plant buildings and warehouses—has been a key driver of India’s growth in recent years. Finance minister Nirmala Sitharaman set aside over Rs 11 lakh crore, or around 3.4 per cent of the GDP, toward capex in this year’s budget.Another cause for concern is the slowdown in consumption, particularly in urban areas. High prices of goods and stagnant wages and salaries have led to a decline in urban consumption, which has been a major contributor to growth for years. India’s consumer price inflation surged to a 14-month high of 6.2 per cent in October, surpassing the upper limit of the RBI’s target range of 2-6 per cent, largely due to high food inflation. Within this, food and beverages inflation reached 9.7 per cent (up from 8.4 per cent in September), with vegetable inflation alone rising over 42.2 per cent, a 57-month high. High food prices were the result of an erratic monsoon, which led to drought in some areas and flooding in others, damaging crops and vegetable cultivation. Increased spending on food leaves consumers with less to spend on other goods, which in turn affects overall consumption. Slowing urban spending over the past 3-4 months has not only hurt the earnings of the largest consumer goods firms, it has raised questions about the structural nature of India’s long-term economic success, says a Reuters report. Since the end of the pandemic, India’s economic growth has largely been driven by urban consumption; however, that now seems to be changing. In addition to high inflation, unemployment and underemployment in some cases have left the middle class with little disposable income. “The urban consumer faced a double whammy,” says Joshi. On the one hand, high inflation ate into discretionary spending for lower-income groups, while on the other, higher interest rates, which have a bigger footprint in the urban areas, curtailed spending on homes and consumer durables.Given that growth has slowed down substantially, one would have expected the RBI to slash interest rates (from 6.5 per cent at present) that would make borrowing cheaper for industrial and retail consumers. However, with inflation still high, the RBI finds itself caught in a bind when it comes to lowering interest rates. The Centre obviously wants the central bank to slash rates, as articulated by both Sitharaman and commerce minister Piyush Goyal in recent weeks. Experts do not expect the RBI to cut rates in December; however, the central bank may do so in February 2025 if inflation eases in November, as is anticipated. The RBI has a target range of 4-6 per cent for inflation, and would prefer to maintain it at the lower end of the range. WHAT’S IN STORE?How long will the sluggishness last? Many expect the GDP to pick up in the second half of the fiscal as the government pushes up capex spending, but it may not be enough to take the entire year’s growth to 7 per cent or more. The third quarter (Oct.-Dec.) will also reflect the festive season numbers, which will indicate if consumption has improved. Agriculture production is expected to be healthy, which should aid rural consumption further. Food inflation is also expected to moderate by the fourth quarter, which would support better consumption. “Beyond that, urban consumption would depend on improvement in the employment scenario and real wage growth,” says Rajani Sinha, chief economist with CareEdge, a ratings firm. “Sustained momentum in consumption growth would be critical for private investment to pick up.”There are other positives, too. Sinha says the order books of capital goods and road development companies are showing a significant uptick in the first half of the year and that bodes well for overall pick-up in capex. Joshi points to the robust Goods and Services Tax (GST) collection last month, which rose to Rs 1.82 lakh crore in November—an 8.5 per cent increase compared to the same month last year. Rural-centric schemes such as the PM Awas Yojana continue to hold out hope for rural India, while both the kharif and rabi crops are expected to do better than last year.What could throw a spanner in the works are the persistent sluggishness in private investment and the import of cheaper goods from China that undercut domestic producers. “On the external front, while merchandise export growth is likely to remain muted amidst global uncertainties, we expect the momentum in services exports to continue,” says Sinha.India could draw a few lessons from the slowdown. While the central bank cannot take its eyes off inflation, there is criticism that interest rates have remained excessively restrictive. Given that, by the RBI’s own estimates, inflation could fall to 4.2 per cent in the fourth quarter of this fiscal and 4.3 per cent in the first quarter of the next, perhaps it is time to view interest rates much more benignly. Economist Ashima Goyal, a former member of the RBI’s Monetary Policy Committee, has argued that there is indeed room for the central bank to cut interest rates to boost growth. That would encourage the government to be more “supportive” and cut fuel prices to tame inflation, she adds. There is also an immediate need to boost private investment, and attract more foreign capital into labour-intensive sectors in India. The Donald Trump administration, set to take office in the US in January, could ignite another round of tariff wars with China. This may present India with a window of opportunity to penetrate new markets by strengthening its presence in international value chains and attracting increased foreign investment. Experts also cite a dire need to improve the skills of India’s workforce to enable it to take up new challenges in high-tech, high-growth sectors like renewable energy and electric vehicles, to name a few.The growth slump in the second quarter should be a grim reminder to the government that it cannot take high growth for granted. While external factors like geopolitical tensions are beyond its control, issues it does have a handle on, and which are hindering growth, must be tackled on a war footing to ensure jobs and better living conditions for its citizens.- EndsPublished By: Shyam BalasubramanianPublished On: Dec 7, 2024Must Watch

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India gets a growth shock

The country's GDP has hit its lowest point in nearly two years, intensifying the government's challenge to tackle the ongoing unemployment crisis

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