Rising capacity utilisation does not square up with slowing economy

As the election season nears its end and the poll rhetoric reaches a crescendo, the economy is looking down with a cacophony of bleak-looking indicators in the background. 

While the news of consumption slowdown is not news anymore, a deeper look into high frequency economic indicators gives a glimpse of its gravity.

In at least three segments of the economy — consumer durables such as refrigerators and air conditioners (white goods), consumer non-durables such as toothpastes and soaps (consumer goods) and primary goods, such as ores and minerals, fuel and electricity — production and consumption are looking down simultaneously in Q4 FY19. This does not portend good for the growth numbers of the March quarter. Then, this trend is in stark contrast with the one that Reserve Bank of India’s surveys exude, that of rising capacity utilisation. It rose to a seven-year high in Q3, the RBI surveys showed.

On the consumption side, sales of FMCG majors and some white goods manufacturers grew slowest in the fourth quarter (Q4) of FY19. Sales of five FMCG majors grew by only 7 per cent in the March quarter. 

Sales of A/C majors grew 8 per cent, but that of the leader, Voltas, grew by less than 2 per cent, lowest in many quarters.

On the production side, the IIP for consumer non-durables remained stagnant over the year, while that of consumer durables contracted strongly by 5 per cent as the financial year ended (See charts 1A and 1B).

People spent with a pinch of salt on fuels and electricity as well. Diesel consumption grew by mere 1.4 per cent in March, while petrol consumption growth moderated to a five-quarter low at 7.2 per cent. Power demand grew slower than the annual average at 4.4 per cent in March. On the production side, the IIP for primary goods remained in the 1-2 per cent region for four consecutive months, which is rare. It is also less than the 5 per cent growth it showed in the first half of the financial year (See charts 2A and 2B).

“At the end of the day, its household savings that boost consumption and investments. People change their behaviour according to how much money they have to spend. Now, whether the consumption from low income groups is down or if the well-off have applied brakes needs to be seen,” said Devendra Pant, chief economist at India Ratings.

Household financial savings (net) have reduced from nearly 10 per cent of the gross domestic product (GDP) in FY11 to 6.6 per cent in FY18, a report by Kotak Securities shows. These indicators suggest that FY19 numbers could not be that promising. He also said the contraction in auto sales has had a definite impact on consumption of petrol and diesel, which seems to be moderating.

Former chief statistician of India Pronab Sen said changes in consumption pattern are a result of sustainability of incomes: windfall gains (one-time cash incomes) and permanent rise in income change consumption patterns differently.

“The current slowdown hinges around the shortage of liquidity in the rural and the informal sector. This apparent stagnancy in incomes has resulted in reduction in lifestyle consumption,” said Sen. “People reduce consumption only when they have sufficient assurance that incomes have reduced structurally,” he added.

The real impact of this has been on the production of intermediate goods, which form one-sixth of the IIP. Production of goods such as yarn and fabric used in garment factories, metal rods and sheets, valves, gears and bearings in auto industry saw a contraction for the fifth consecutive month in March (See chart 3).

But these high frequency indicators raise some doubts on the improvement in capacity utilisation (CU) in the third quarter. Generally, CU tops in the fourth quarter in any financial year, data shows. Rising CU along FY19 is in stark contrast with the dampening of the economy evident in high frequency indicators.

India Ratings’ Pant said the only way capacity utilisation can improve with slowing down of IIP is when existing capacity would go out of production. “When the base itself has reduced, capacity utilisation can improve numerically,” he said.

“The rising cases of manufacturing companies under the Insolvency and Bankruptcy Code (IBC) could be the reason,” said Madan Sabnavis, chief economist at Care Ratings.