Q2 GDP growth raises some hope, but meeting FY18 forecast still not easy

To achieve at least 6.7% growth for full year, Indian economy must grow by at least 7.57% in each of the Oct-Dec and Jan-Mar quarters; performance of manufacturing, services sectors to be key

The Indian economy has to grow by at least 7.5 per cent in each of the remaining two quarters of the current financial year, if it has to come anywhere near the various growth forecasts made by different agencies. This is one message policy makers cannot ignore while they interpret the economic growth numbers for July-September 2017, released by the Central Statistics Office on Thursday.
 
In its last monetary policy statement on October 4 this year, the Reserve Bank of India had lowered its growth projection for 2017-18 to 6.7 per cent, down from the earlier figure of 7.3 per cent. A few days later, the International Monetary Fund too had lowered its growth estimate for India from 7.2 per cent to 6.7 per cent. Earlier, the Union finance ministry had seen downward risks to its original growth projection of 6.75 per cent to 7.5 per cent.
 
In the first two quarters of the current financial year, India’s gross value added (GVA) in basic price grew by 5.83 per cent – 5.56 per cent in the first quarter and 6.1 per cent in the second quarter. In order to achieve at least 6.7 per cent growth for the full year, therefore, the Indian economy must grow at the rate of at least 7.57 per cent in each of the October-December 2017 and January-March 2018 quarters.
 
On the face of it, a target of 7.5 per cent growth in each of the remaining two quarters does not look too formidable. However, a closer analysis reveals that achieving these numbers will not be an easy task, either.
 
Take the manufacturing sector, which has a weight of over 15 per cent in growth measurement. In the second quarter of the current year, it rose by seven per cent and seems to have revived after two successive quarters of tepid growth. (See charts)
 
But what could worry policy makers is a positive correlation between high growth rates in the manufacturing sector with the rise in total GVA in the economy. In the past 14 quarters, roughly corresponding with the Narendra Modi government’s tenure so far, every time the manufacturing sector has grown above 9 per cent, the overall economy’s gross value added too has risen above 7 per cent.
 
In other words, a 9 per cent-plus manufacturing growth rate could make the task of raising economic growth in the remaining quarters easier. The big question is whether the manufacturing sector in its current state has the strength to deliver growth rates of above 9 per cent for two consecutive quarters. Of the past 14 quarters, the manufacturing sector has grown by more than 9 per cent in only six.
 
Government expenditure and public administration, which as a sector has a weight of around 13 per cent, could be another worry point. The government is likely to be obliged to squeeze expenditure to rein in its fiscal deficit and, therefore, the impetus from this sector to value added growth will be limited.
 
In the second quarter of the current year, it already decelerated to 6 per cent, from 9.4 per cent in the first quarter. It is unlikely to rise again in the remaining two quarters of the current year and the overall economic growth numbers might suffer on this count. The high base effect of government expenditure in the last two quarters of 2016-17 will also be a disadvantage this year.
 
Agriculture will be a worry point as well. With a decline in the output of the Kharif crops, the onus of keeping the agriculture growth intact would be on the non-crop segments like dairy, horticulture, forestry, animal husbandry, etc. But once again the high base effect of the last two quarters of 2016-17 will come as a challenge for agriculture to recover from the current anaemic growth rate of just about 2 per cent in the first half of the current financial year.
 
Construction, too, does not show any signs of a revival. Its growth rate of 2.12 per cent in the first half of the current year provides no glimmer of hope even though the impact of demonetisation should have been over by now. It seems the construction sector suffers from a deeper malaise that needs to be identified and addressed.
 
The heavy lifting, therefore, has to be done by the services sector that has a combined weight of over 46 per cent. It includes trade, hotels, transport, communication, financial services, real estate, professional and other services. With exports continuing to show tepid growth numbers, there is a question mark on whether the services sector would be able to clock a growth rate in the remaining two quarters which is much higher than the eight per cent growth seen in the first half of the year.
 
The performance of the mining and electricity sectors has provided some hope as both of them seem to have recovered and are on an upward trajectory. Mining has clocked a 5.5 per cent growth rate in the July-September 2017 quarter, after flat growth in the previous quarter. And electricity continues to grow – 7.6 per cent in the second quarter of the current year compared to 6.56 per cent in the previous year.
 
The long-term worry, however, is on account of the investment rate, which continues to decline as a share of gross domestic product (GDP). Gross fixed capital formation has risen by a little over four per cent in the second quarter this year, but as a share of GDP it continues to decline – a trend that has remained unchanged since the July-September 2016 quarter. For sustainable long-term growth, policy makers need to ensure a reversal in the investment rate as well, and not just in the overall growth in GVA.