Indian industry seems to be on a roll. The index of industrial production (IIP) for January 2010 grew by 16.7 per cent over last year, fuelled by 17.9 per cent growth in the manufacturing index (its principal component) and a robust 14.2 per cent growth in mining. This follows growth of 17.6 per cent in December 2009. While the January print is certainly impressive, there were some early indications that the December momentum would sustain in January. The January core sector index that includes sectors like oil and gas, electricity, steel and cement (and is released before the IIP) grew by a solid 9.4 per cent as did non-oil imports, known to correlate well with industrial activity. The purchase managers’ index (PMI), another “leading indicator” for industrial production that is based on a survey of manufacturing firms, had also perked up in January.
While the January data seems to confirm yet again that the industrial recovery is well-entrenched, a word of caution would not be entirely out of order. The capital goods component of the index grew at a spectacular 56 per cent in January and was a major contributor to the buoyancy in the aggregate index. This, prima facie, would indicate a recovery in investments in the economy. However, this is not corroborated by other data, particularly credit growth that still remains weak. Bankers keep complaining that while companies have ambitious capital expansion plans, they are still wary of drawing down their sanctioned limits to execute these plans. Thus, it is somewhat difficult to fathom this apparent robustness in capital goods production that the IIP suggests. One possible explanation is that the traction in capital goods is driven by its curiously-titled component “transport equipment and parts” that stands for truck and bus production. Truck sales have been strong for a few months and the demand for buses seems to have picked on the back of allocations made to states under the Jawaharlal Nehru Urban Renewal Mission. However, unless there is a more “genuine” recovery in investment driven by a rising capex cycle, the ability of industrial growth to sustain its current momentum is uncertain. The other worrying bit is the decline in consumer non-durables, the day to day consumption items of households, by 3.1 per cent. This is keeping with the trend of soft growth in this category for the past few months and suggests that disposable incomes are under pressure possibly due to high food prices. The data for January has consequence for monetary policy as well. The IIP is likely to be a critical input in RBI’s interest rate decision and the current configuration of high growth and elevated inflation would warrant tighter monetary policy. Thus, it is likely that interest rates will begin to rise even before capacity expansion has even begun to look up. Besides, the IIP measures production growth, not profitability. Thus, even with strong growth in sales volumes, a combination of rising interest rates and high input costs that inflation entails could dent company profits going forward. The stock market remained remarkably indifferent to the IIP release and actually sold off a tad. Is the prospect of higher borrowing costs and shrinking margins playing on its mind?
