Muted Jan-Mar showing indicates inflation, other factors have hit consumption

Shopping malls experienced a recovery during the festive season last year as shoppers returned with the ebbing of the pandemic’s second wave, but celebrations were cut short by the onset of the third wave.

Among the low-base-effect fuelled annual GDP numbers released on May 31 by the statistics ministry, there was one rather subdued quarterly figure: Private Final Consumption Expenditure.

Private Final Consumption Expenditure — or PFCE — was up a mere 1.8 percent year-on-year in the January-March quarter. PFCE refers to individuals' spending on goods and services.

Lest it be forgotten, for FY22 as a whole, PFCE was up 7.9 percent. Compared to FY20—as is often done to bypass the distortion caused by the coronavirus pandemic—PFCE was 1.4 percent higher in FY22.

The obvious reason for the marginal increase in private consumption in the first quarter of 2022 is the omicron variant-led third wave, which led to restrictions being imposed on movement and economic activities in several parts of the country. This hurt services, particularly contact-intensive ones, the most.

However, it is becoming more and more difficult to ignore the impact high inflation may be having on consumption.

Strong headwinds

"PFCE…faces strong headwinds from rising inflation," CRISIL said in a note on June 1.

While the jump in Consumer Price Index (CPI) inflation to a 95-month high of 7.79 percent in April attracted a lot of attention—particularly in light of the Reserve Bank of India's (RBI) Monetary Policy Committee (MPC) raising the repo rate by 40 basis points on May 4—inflation has been above the medium-term target of 4 percent for 31 consecutive months.

Taking June 2020 as the starting point—to get around the imputed inflation prints for April and May 2020—CPI inflation has since averaged 5.9 percent— just 10 basis points lower than the upper bound of the RBI's inflation mandate.

Consumption before investment

The situation seems to be particularly bad for rural consumption.

According to Gaura Sen Gupta, IDFC First Bank's India economist, subdued growth in rural wages has resulted in weak rural consumption, with two-wheelers and tractors witnessing poor sales.

"Available evidence suggests that low productivity growth, subdued increase in minimum support prices, lower non-agricultural income due to lack of traction by the micro, small, and medium enterprises, and lower urban remittance inflows have adversely impacted rural income and, thereby, consumption," added Sujan Hajra, Anand Rathi Shares & Stock Brokers' chief economist.

Also read: FMCG demand slows in rural markets for third successive quarter in Q1 2022: NielsenIQ

Urban consumption, on the other hand, has fared better, thanks to some recovery in the formal sector jobs.

If private consumption only inched up in the January-March period, Gross Fixed Capital Formation, or GFCF, managed a stronger increase of 5.1 percent. For FY22 as a whole, GFCF —seen as a proxy for investments—was up a massive 15.8 percent following a 10.4 percent contraction in FY21. Compared to FY20, GFCF was up 3.8 percent in FY22.

While the GFCF numbers are better than their PFCE counterparts, the link between the two is inextricable.

"India's golden period of secular growth of 2003-07 was synced with the capex cycle pre-Global Financial Cycle (GFC)," said Madhavi Arora, lead economist at Emkay Global Financial Services, in a note on May 31.

Also read: Resilience in Q4 masks the growing challenges for FMCG sector in FY23

"Consumption, specifically private consumption, has been the linchpin of India's growth story post GFC, but it has been languishing since 2018 and has seen a secular hit since then. Private investment, on the other hand, is endogenous in nature—it first needs demand to fire and utilisation to rise," Arora added.

According to RBI surveys, the manufacturing sector's capacity utilisation has exceeded 75 percent—widely considered the minimum level required for companies to start investing in increasing their production capacities— in only four quarters since the start of FY14. The latest number, for the last quarter of 2021, was 72.4 percent, ensuring questions remain about the revival of private investment.

Tough road ahead

With inflation not showing signs of cooling anytime soon, the purchasing power of consumers will continue to erode. In a June 1 column for Moneycontrol Pro, IndusInd Bank Chief Economist Gaurav Kapur warned that high and persistent inflation would "dent" discretionary consumption and harm the "nascent consumption turnaround".

The turnaround is key not just from an investment perspective but growth itself. PFCE constitutes around 56 percent of India's GDP. As such, if sparked into life, it can boost overall growth substantially.

But consumption must battle forces beyond just inflation. According to Arora of Emkay Global Financial Services, domestic demand may be hit further by a reduction in the government's spending push, increased global uncertainty, continued supply disruptions, high input costs, lower corporate profitability, and tightening of monetary policy by the RBI. There could be more of the last of these next week, with economists expecting the MPC to raise the repo rate again on June 8.