Industrial growth seems to be back with a renewed strength, with the Index of Industrial Production (IIP) having changed its course again. After a period of significant slowdown, in the backdrop of the global financial crisis, the IIP has registered an average growth of 11.47 per cent during June 2009-January 2010 as compared to 0.9 per cent in the previous 8 months of October 2008-May 2009. The developments on this front invite significant attention since growth in industrial activity not only generates employment and income, but also drives the demand for other segments like services. A strong revival in industrial activity, in fact, has been instrumental in supporting India’s journey on the recovery path and has generated buoyant expectations regarding the growth prospects of the Indian economy. The question that arises now is whether this robust growth in the IIP would be sustainable, especially in the event of withdrawal of the stimulus provided by the government.
The pattern of industrial growth underlying the overall improvement in IIP is extremely reassuring in the context of its sustainability. The recent surge in the IIP has been driven by robust growth in the manufacturing sector which accounts for almost 80 per cent of the Index. While growth in electricity continues to remain muted, mining and quarrying activity has picked-up pace in the last few months. Moreover, the recovery in the manufacturing activity seems broad based given that almost 15 of the 17 industrial groups registered positive growth (on an average) during June 2009-January 2010. The used based classification of the IIP reveals that the recent surge in IIP has been driven by a combination of consumption as well as investment demand. Production of the consumer durables has witnessed significant surge in the last few months, supported the low interest rates – hence, consumer durables registered a growth rate of over 5 times in the 8 months ending January 2010, as compared to 8 months preceding this period. On the other hand, the consumer non-durables sector continues to suffer indifferent growth, perhaps due to the elevated prices of food articles, which forms the raw material for a large number of these products. On the investment front, capital goods have grown by over 19 per cent during June 2009-January 2010 as compared to 2.9 per cent during Oct 2008-May 2009. This indicator, which marks the revival of capital expenditure activity (investment), is extremely significant. The capital goods sector in general, tends to behave as a leading indicator of overall IIP growth. Therefore, the recent surge in capital goods production indicates that growth in IIP is likely to continue further, and remain sustained. Also, the production of basic as well as intermediate goods, which have strong backward and forward linkages, has witnessed sustained improvement and augurs well for growth of the manufacturing sector going forward.
To further establish the healthy prognosis for the current surge in IIP growth, we could compare it with the period of industrial recovery pattern observed post the slowdown of 2001-02. A broad comparison in the movement of IIP in the two periods reveals that the recovery in the current period is much faster and stronger. The recovery which began since mid-FY03 was backed by high growth in capital goods in the initial phase, subsequently supported by growth in consumption demand. The industrial boom that followed this recovery lasted for almost five years (between FY04-FY08), supported by strong consumption as well as investment demand. Thus, the current rebound, which is supported by a simultaneous pick-up in production of capital goods as well as consumer durables, bodes well for the sustainability of robust IIP growth.
While the accommodative fiscal and monetary policy coupled with revival in domestic demand appears to have facilitated the recent growth of IIP, supportive macro-economic environment would be very crucial in sustaining this growth for a long term period. The five year industrial boom period mentioned above was backed by the exponential growth of credit, facilitated partially by the liquidity injected into the system through huge foreign fund inflows. Along with the prima facie domestic demand, external demand had also played an important role in aiding the growth in manufacturing sector during that period.
In the current scenario, liquidity condition has witnessed significant improvement; call rates which touched a high of 16.50 per cent during month of Oct-08 has moderated to around 3.6 per cent currently. Bank credit growth, though moderate, has shown some signs of revival in the recent past. Recourse to external sources of funds such as ECB, public issue, QIPs etc has also seen some improvement. Moreover, the demand for India’s exports is also recovering. One of the major factors, that is likely to drive the industrial growth going forward is spending on infrastructure by the government. While the focus of the budget on infrastructure development is a positive development, implementation would be a key.
Although a host of factors are likely to support industrial activity going forward, mounting inflation could be a possible roadblock. Despite some downside risk, the robust growth in IIP would be sustained. We believe that growth in the industrial sector would drive overall economic growth in the near term. We expect the growth in industrial sector to be faster compared to services sector during FY11. In fact, industrial sector is likely to contribute to around 35 per cent of the incremental GDP during FY11 as compared to 16 per cent in FY09.
The author is Head – Economic Analysis, Dun & Bradstreet India