Economic Survey 2018: Higher growth rate, possible revival in private capex among top 10 takeaways

Economic Survey

Indian stock market took positive cues from the Economic Survey 2017-18 which was tabled in the parliament on Monday which cemented hopes of a turnaround in the economy in 2018-19 but highlighted concerns around the rise in oil prices and elevated asset prices.

The S&P BSE Sensex was trading comfortably above 36,300 levels while Nifty50 was hovering near its record highs. There was no sell-off at higher levels which suggests that investors took the survey in a positive way.

Over the coming year, the government will need to focus on the 4 R’s, ensuring that the process of resolving the major indebted cases and recapitalising the public sector banks is carried to a successful conclusion, while initiating reforms of the PSBs that will credibly shrink the unviable ones and signal greater private sector participation in the future, said the Survey document.

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The government will also need to stabilise GST implementation to remove uncertainty for exporters, facilitate easier compliance, and expand the tax base. The government needs to stave off any nascent threats to macroeconomic stability, notably from persistently high oil prices, and sharp, disruptive corrections to elevated asset prices.

Here is a list of top 10 takeaways from market’s point of view:

Possible correction in stock markets?

Evidently, markets expect rapid growth, which would warrant the run-up in stock prices but are also pricing in some macro-balance concerns. Similarly, even the rating upgrade carried warnings of potential macro-economic challenges.

Asset valuations (price-equity ratios) tend to revert to their mean. And the faster and higher they climb, especially so late in the economic cycle, the greater the risk of sharp corrections.

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Simultaneously high valuations of both bonds and equities tend to be briefly lived because they suffer from an acute tension. If future earnings and economic growth are so bright, justifying high equity prices, interest rates cannot be forever so low.

And if interest rates rise—or if markets even sense that central banks will need to shift their stance—both bond and equity prices could correct sharply. A plausible scenario would be the following, said the survey.

Higher Growth Rate

A series of major reforms undertaken over the past year will allow real GDP growth to reach 6.75 percent this fiscal and will rise to 7.0 to 7.5 percent in 2018-19, thereby re-instating India as the world‘s fastest-growing major economy, said the Survey document.

This was stated in the Economic Survey 2017-18 tabled in Parliament today by the Union Minister for Finance and Corporate Affairs, Shri Arun Jaitley. It said that the reform measures undertaken in 2017-18 can be strengthened further in 2018-19.

Private Investment

Private investment seems poised to rebound, as many of the factors exerting a drag on growth over the past year finally ease off. Translating this potential into an actual investment rebound will depend on the resolution and recapitalization process.

If this process moves ahead expeditiously, stressed firms will be put in the hands of stronger ownership, allowing them to resume spending. But if the resolution is delayed, so too will the return of the private capex cycle.

And, if this occurs public investment will not be able to step into the breach since it will be constrained by the need to maintain a modicum of fiscal consolidation to head off market anxieties.

Increase in Taxpayers Post-Demonetisation

One of the aims of demonetization and the Goods and Services Tax (GST) was to increase the formalization of the economy and bring more Indians into the income tax net, which includes only about 59.3 million individual taxpayers, equivalent to 24.7 percent of the estimated non-agricultural workforce. Has this happened and to what extent?

At first blush, there does seem to have been a substantial increase in the number of new taxpayers. After November 2016, 10.1 million filers were added compared with an average of 6.2 million in the preceding six years.

Crude oil likely to rise

In the last three fiscal years, India experienced positive terms of trade shock. But, in the first three quarters of 2017-18, oil prices have been about 16 percent greater in dollar terms than in the previous year. It is estimated that a USD 10 per barrel increase in the price of oil reduces growth by 0.2-0.3 percentage points.

Persistently high oil prices (at current levels) remain a key risk. They would affect inflation, the current account, the fiscal position, and growth, and force macroeconomic policies to be tighter than otherwise.

Stock Market Boom and Equity Raising

When stock prices boom, as they have done in the past two years, firms issue more equity publicly, taking advantage of the reduced cost of capital to embark on new investment projects. This happened in the mid-2000s and again around 2010.

In the last two years, especially in the first eight months of this year, there has once again been a pick-up in equity-raising activity. If current trends continue, the number of issues and their value could double the levels recorded in the previous six years.

Fiscal Deficit

The fiscal deficit for the first eight months of 2017-18 reached 112 percent of the total for the year, far above the 89 percent norm (average of last 5 years), largely because of a shortfall in non-tax revenue, reflecting reduced dividends from government agencies and enterprises.

Expenditure also progressed at a fast pace, reflecting the advancing of the budget cycle by a month which gave considerable leeway to the spending agencies to plan in advance and start implementation early in the financial year.

Partially offsetting these trends will be disinvestment receipts which are likely to exceed budget targets.

GST Revenue Collections

GST revenue collections are surprisingly robust given that these are early days of such a disruptive change. Government measures to curb black money and encourage tax formalization, including demonetization and the GST, have increased personal income tax collections substantially (excluding the securities transactions tax).

From about 2 percent of GDP between 2013-14 and 2015-16, they are likely to rise to 2.3 percent of GDP in 2017-18, a historic high. Precise estimates of the government’s contribution to this improvement vary depending on the methodology used.

Rise in Bond Yields

Bond yields have increased sharply since August 2017, reflecting a variety of factors, including concerns that the fiscal deficit might be greater-than-budgeted, expectations of higher inflation, a rebound in activity that would narrow the output gap, and expectations of rate increases in the US.

As a result, the yield curve has become unusually steep. Another factor contributing to the rise in bond yields has been stepped-up Open Market Operations (OMO) by the RBI.

This amounted to a net sale of about Rs. 90,000 crore during April-December 2017-18 (compared to a net redemption of Rs. 1.1 lakh crore during the same period in 2016-17) to sterilize the impact of foreign flows, themselves induced by high interest rates.

Fiscal Consolidation Path

A key policy question will be the fiscal path for the coming year. Given the imperative of establishing credibility after this year, given the improved outlook for growth (and hence narrowing of the output gap), and given the resurgence of price pressures, fiscal policy should ideally have targeted a reasonable fiscal consolidation.

However, setting overly ambitious targets for consolidation—especially in a pre-election year—based on optimistic forecasts that carry a high risk of not being realized will not garner credibility either.

Here is the Full Text of Economic Survey 2017-2018