Q2 GDP surges to 7.9%: Rate hike in the offing?

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The economy grew an annual 7.9% in the September quarter, much faster than expected on government stimulus spending and a surge in manufacturing, adding pressure on the central bank to lift interest rates as inflation rises.

The annual growth for India's fiscal second quarter was far above a median forecast of 6.3% in a Reuters poll as agricultural output performed better than expected, sending the yield on the benchmark 10-year bond up by 2 basis points as investors bet on higher interest rates.

The growth was the strongest for Asia's third-largest economy in 18 months.

"This data could be a green light for the Reserve Bank of India to hike rates, and there are greater chances of this by end of the calendar year. The exit from the fiscal stimulus by the government may also be earlier post the GDP data," said Robert Prior-Wandesforde, senior Asia economist at HSBC in Singapore.

In the June quarter, India's economy grew 6.1% from a year earlier, and Prior-Wandesforde said that by his calculation the September's period's growth was the sharpest on a quarter-by-quarter basis since quarterly data began in 1996.

Manufacturing output expanded 9.2% in the September quarter as consumers stepped up purchases of cars and other goods.

Farm output was up 0.9%, beating expectations for a decline, although economists warned that the impact of the poor monsoon was likely to be seen in the current quarter.

"The December quarter will show agriculture declining, because that's when the harvest shortfall will get captured," said Rajeev Malik, economist at Macquarie in Singapore, who stuck with his view that the central bank would deploy liquidity management steps rather than rate hikes in December and January.

"I don't think they (RBI) are going to be swung by what agriculture has done on a technical basis," he said.

Last week, India's finance minister expressed worry about rising food prices - the result of a bad summer monsoon and floods that have crimped farm output.

On Monday, however, a top government advisor said there were no serious inflation concerns for now and said he expected no change in government stimulus policy for the current fiscal year.

"It is difficult to project what will happen in the rest of the year. But this performance does suggest that there may well have to be an upward revision in the GDP growth of 6.5% which has been projected so far," Montek Singh Ahluwalia, deputy chairman of India's Planning Commission.

India's roaring September quarter performance still lagged the 8.9% growth recorded by China during the same quarter.

Consumers' share of spending in the Indian economy totalled 53.5% in July-September, roughly in line with 53.4% a year earlier, while the government's share rose to 10.6% from 8.7% on the back of stimulus spending, Monday's data showed.

The economy accelerated from its 5.8% rate in the December and March quarters to 6.1% in June on pick-ups in the mining, manufacturing, and electricity and services sectors from the previous quarter.

In the 2008/09 fiscal year, India's economy grew 6.7%, its weakest in six years and well below rates of 9% or more in the previous three years.

The Reserve Bank of India has warned the poor monsoon was more likely to drive inflation than to curb growth. The index of food prices jumped 15.6% in the year to mid-November, although supply-side inflation is largely beyond the purview of monetary policy.

The central bank cut its key lending rate by 425 basis points between October 2008 and April, while the government slashed duty rates and stepped up spending to pump-prime the economy and prevent massive job losses.

The Reserve Bank forecast growth during 2009/10 would come in at 6% with an upward bias. The finance minister said last week growth could be 6-7% in 2009/10 and rebound to 8% next year.

The Reserve Bank of India late last month began its exit from its extremely loose monetary policy by removing some of the liquidity support measures implemented to help India weather the global downturn.

Economists in a Reuters poll at the time were divided over when the RBI would begin to raise interest rates, but were unanimous that rates would increase by the end of April. The central bank will hold monetary policy review meetings in January and April, but can adjust rates at any time.