The advanced estimates released by the Central Statistical Office (CSO) on Tuesday only confirm the slowing in India’s economic growth. Thanks to the high inflation that forced the Reserve Bank of India to raise policy rates 13 times between March 2010 and October 2011, the cost of capital has risen and is hurting private consumption, as well as investment plans across various segments. These have also led to a deceleration in gross fixed capital formation (GFCF). Based on data provided by the CSO, GFCF grew a mere 3.5 per cent in the first six months of 2011-12, compared with 10.7 per cent in the corresponding period of 2010-11. Notably, it has declined 0.6 per cent in the second quarter of 2011-12, the first contraction in as many as six quarters.
According to estimates, one percentage point fall in the GFCF rate could shave off about 0.2 percentage points from the potential GDP output.
Madan Sabnavis, chief economist, CARE Ratings, the subdued investment in infrastructure, the high interest rates and the deceleration in demand have hit the pace of gross capital formation in the current financial year.
Capital formation refers to net addition of capital stock such as equipment, buildings and other intermediate goods. Capital stock, together with labour, is used to provide services and produce goods. An increase in this stock is known as capital formation. Increasing an economy’s capital stock also increases its capacity for production, which means an economy can produce more and grow faster, leading to higher incomes.
The trend in gross fixed capital formation as a percentage of GDP is also unhealthy. From 32.1 per cent in the March quarter of 2010-11, it slipped to 31.2 per cent in the June quarter and to 30.5 per cent in the September quarter. GFCF at constant (2004-05) prices is estimated at Rs 1,795,081 crore in 2011-12, against Rs 1,699,387 crore in 2010-11.
Sonal Varma, economist at Nomura Financial Advisory and Securities, says, “The important point from today’s (Tuesday’s) report is that a combination of tight monetary conditions, high inflation and a policy logjam has hurt investment activity and severely dampened industrial sector output growth to its lowest level in a decade. Within industry, mining output contracted due to the policy uncertainty, while high interest rates and rising inflation hurt manufacturing and construction activity.”
While the services sector has been the chief driver of GDP growth this year, a trend likely to persist, CARE’s Sabnavis and economist Kavita Chacko, in their report, say, “The growth in the industrial sector is expected to be subdued this year, owing to the slowdown in manufacturing, construction and mining and quarrying. The only noteworthy growth in industry is in the electricity, gas and water supply segment, which is estimated to grow 8.3 per cent this year, 5.3 per cent more than in the previous year.”
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They said the high interest rate regime, coupled with policy inaction in the area of mining and subdued investments, impacted this sector. In the future, too, only in the scenario of affirmative policy action could an improvement can be expected.
The scenario in other core sectors like power and metals is also not upbeat, owing to issues pertaining to input sourcing and the environment.
While policy initiatives are far below desired levels and are hurting investment across many sectors, interest rates seem to have peaked. Nevertheless, even if things change for the better, a pick-up in GFCF is unlikely any time soon, say experts. This is because typically, it takes two-three quarters before the benefits start reflecting in the numbers.
| EXPENDITURE SIDE GDP 2004-05 prices (%) | ||||||||||
| Item | 2009- 10* | 2010- 11** | 2010-11 | 2011-12 | 2010- 11 H1 | 2011- 11 H1 | ||||
| Q1 | Q2 | Q3 | Q4 | Q1 | Q2 | |||||
| Growth rates | ||||||||||
| Gross fixed capital formation | 7.3 | 8.6 | 11.1 | 10.3 | 7.8 | 0.4 | 7.9 | -0.6 | 10.7 | 3.5 |
| Relative share | ||||||||||
| Gross fixed capital formation | 32.0 | 32.0 | 31.4 | 32.8 | 30.5 | 32.1 | 31.2 | 30.5 | 32.1 | 30.9 |
| * Quick estimates; ** Revised estimates; * Despite well-known limitations, expenditure-side GDP data are being used as proxies for components of aggregate demand Note: As only major items are included in the table, data will not add up to 100 Source: Central Statistical Office | ||||||||||
On the GDP growth rate in 2012-13, most experts believe it may be closer to 7.5 per cent.
Notes Varma, “Looking ahead, we expect real GDP growth to rise to 7.4 per cent year-on-year in FY13 (from 6.9 per cent estimated for FY12). High interest rates and elevated inflation — the two key headwinds to growth — should become tailwinds later this year. Government policy remains somewhat uncertain, though some signs of improvement are already visible in the first quarter. Our forecasts assume stable commodity prices and 100 basis points of repo rate cuts in 2012 (from April). Despite the sharp slowdown in industrial output, we expect only limited rate cuts because inflation is structurally high and the fiscal policy expansionary. As such, we believe growth is likely to remain below the trend in the next financial year as well.”
Sabnavis and Chacko estimate GDP growth at about 7.5 per cent in FY13.