Sustaining the 8% growth pace will be challenging

The government releases official data on quarterly growth of national income with a time gap of exactly two months. On August 31, it reported that India’s GDP growth rate for the April to June quarter was a solid 8.2%. This was the highest growth rate recorded in nine quarters. It was also the fifth consecutive quarter of steadily rising GDP growth rate from the low of 5.7% in the June quarter last year. The question is, can we sustain this 8%-plus growth in the next few quarters and beyond? That looks challenging.

High growth is an imperative, since it means higher incomes, jobs, consumption and more fiscal resources (taxes) for the government. To sustain the growth engine at a high rate requires a balanced pace between the various drivers. We need consumption, investment and exports to grow together.

These are the “demand” drivers, or as measured from the spending side. If the spending is chugging along, it signals sustainable growth. The demand drivers are also the flip side of supply-side drivers, which is output from industry, services and agriculture. For sustainable growth, these need to chug along, too, in a balanced way.

Let’s examine the quarterly data. The high GDP growth was powered by a 13.5% growth in manufacturing activity. This is impressive, but keep in mind that one year ago, the manufacturing sector actually shrank (not grew) by 1.8%. Last year, in June, we were still reeling from the impact of demonetisation which affected the small, medium and informal sector disproportionately. So, it is no wonder that on a year-on-year calculation, this year’s June quarter has recorded a whopping 13.5% growth. This is called the “low base” effect, and is likely to wear off in the coming quarters.

Manufacturing activity is quite aligned with exports. Exports grew by 12.4%, a healthy number. Unless exports do well, we cannot have sustained double digit growth in manufacturing. Again, keep in mind that exports grew overall at 0% in the four years from March 2014 to March 2018. There are several reasons for this, such as a strong exchange rate (making exports less competitive), the disruption due to demonetisation, big delays in getting GST refunds, and inefficient logistics.

If exports maintain their pace in the coming quarters, it would greatly facilitate growth in manufacturing. The fall in the rupee will help exports, although as a net importer who depends on imported crude oil, we cannot afford for the rupee to fall too steeply. Industrial growth has been hampered not only by the strong rupee, leading to a surge of imports, but also due to unused idle capacity, which adds to fixed costs.

Looking at growth from the expenditure side, we see government (consumption) spending grew 6.8%, 16.9% and 7.6% respectively in the past three quarters. Thus, it is a major source providing the spending “fuel” to the GDP engine. But that spending requires fiscal resources. The fiscal situation is not comfortable, notwithstanding the record increase in income tax filers as well as the slow stabilisation of GST monthly revenues.

Additional obligations like loan waivers and now disaster relief, plus capital infusion into besieged banks, means that while government did compensate for the slack in demand last year post-demonetisation, it cannot continue to be the sole engine of growth. The pay commission awards, the HRA revision also help spur private (not government) consumption demand. But much of it is going toward expenditure on imported goods (from mobile phones to washing machines), causing our current account deficit to widen alarmingly.

Seeing growth from the supply side, we find that the construction sector has grown smartly at 11.5% and 8.7% in the past two quarters. The high growth in monsoon months is quite remarkable.

Here, too, the hidden factor must be the strong push from the government’s roadway construction as also projects like the new capital city of Amravati in Andhra Pradesh, or spending on railways, ports and airports. Agriculture, too, grew at 5.3% in the recent quarter, the highest in five quarters. Unfortunately, it does not translate into higher incomes for farmers.

Four adverse factors

So, we come to the issue of sustaining this high pace. Unless we get a demand push from private investment spending (not just government spending on infrastructure) and exports, we will find it difficult to remain at 8%. The ratio of investment to GDP has been falling for many quarters, and is hampered by high idle capacities, surge of imports discouraging expansion of domestic capacities, high interest rates, difficulty of land acquisition and the still difficult ‘ease of doing business’.

On the export front, it won’t do any good to become protectionist. By raising import barriers we only encourage inefficiency in domestic industry. Lesser the barriers, the more it helps encourage enterprises, especially small and medium ones, to be a part of global value chains. The weaker rupee, too, will help. Zero-rating exports in GST will be a big boost. Getting exports to grow at a steady double digit is an imperative to ensure 8%-plus growth rate.

India faces four adverse macro factors this fiscal. Inflation is higher due to oil and commodity prices; current account deficit is higher due to the import surge, supported by domestic consumers; the fiscal deficit is going to be higher, especially at the state level, thanks to unbudgeted new obligations.

And, finally, interest rates are inching higher due to tightening liquidity and inflationary concerns. So, all in all, we should consider it fortunate if our growth rate sustains at 7.5% for the rest of the year. That would be a good achievement, especially if it is balanced across all sectors.

(The writer is an economist and Senior Fellow, Takshashila Institution) (The Billion Press)