Podcast | Editor's Pick of the Day: Breaking down India's record 8.2% GDP growth in Q1FY18

India’s economy zoomed to a nine-quarter high, clocking an 8.2 percent growth in the April-June quarter, beating analyst expectations. The growth has been on the back of a pickup in manufacturing, and of course, a low base from the year-ago period.

The numbers have brought some relief to the administration in New Delhi, already under fire about the demonetization episode and the depreciating rupee. "India’s GDP for the first quarter this year growing at 8.2 percent in otherwise an environment of global turmoil represents the potential of New India. Reforms and fiscal prudence are serving us well. India is witnessing an expansion of the neo middle class," tweeted finance minister Arun Jaitley.

It appears that households are buying more; companies are adding capacities; and there has been a rise in corporate investment. India also cemented its status as the world’s fastest growing major economy, ahead of China, which grew 6.7 percent in April-June 2018. At the current pace, India looks set to become the world’s fifth largest economy, ahead of the UK. According to latest World Bank data, India edged past France to become the world's sixth largest economy. India's GDP stood at $2.597 trillion (Rs 178 lakh crore) in 2017 in current prices in market exchange rates, ahead of France whose GDP stood at $2.582 trillion (Rs 177 lakh crore) in 2017.

Writing for Moneycontrol, Shreya Nandi reported that latest national income numbers put out by the Central Statistics Office (CSO) on Friday show that Gross Value Added (GVA) in constant 2011-12 prices grew 8 percent in April-June 2018, significantly higher than the last year’s 5.6 percent growth during the same quarter.

Bibek Debroy, Chairman of the Economic Advisory Council to Prime Minister attributed this growth trend to “continued impetus on structural reforms and effective implementation of ongoing policy initiatives.” He further said in a statement, “Despite an uncertain international environment and volatile crude oil prices, India’s sustained growth reflects its strong resilience to adverse global conditions, because of strong economic fundamentals. The encouraging growth rates in agriculture, manufacturing and construction show that the growth momentum continues to be broad based. In addition, one also expects favourable monsoons to further boost agricultural output and rural consumption in the coming quarters.”

GVA, which is GDP minus taxes, serves as a more realistic proxy to measure changes in the aggregate value of goods and services produced in the economy. The growth in India’s real or inflation-adjusted gross domestic product (GDP) in April-June, however, is also partly because of low growth of 5.6 percent in the same quarter last year, with a favourable “base effect” perhaps magnifying the expansion pace in the broader economy due. Companies had significantly scaled down production in June 2017 as part of a business strategy to carry over as little old stock as possible into July when GST kicked-in, triggering an unexpected mid-year pre-GST “sale” season on many products at heavy price markdowns.

The manufacturing sector grew 13.5 percent in April-June, from (-) 1.8 percent in the same period last year, mirroring the trends in output activity seen in factory floors.

The index of industrial production (IIP) — the broadest approximation to measure activity across India’s factories — has grown at 5.2 percent during April-June 2018 compared with 1.9 percent in the same period last year. The growth in the manufacturing sector is also broadly in line with shop-end sales, with car sales reporting record growth numbers, aided by greater disposable income or expectations of higher income in the coming months.

Private consumption seems to be improving. Private final consumption expenditure (PFCE), in inflation-adjusted prices — a gauge to measure changes in household spending — grew 8.6 percent in April-June to Rs 18.52 lakh crore from Rs 17.05 lakh crore in the same quarter last year. Domestic air passenger traffic, robust rail freight movement, rising sales growth of passenger vehicles and strong consumer durables sales also point to a turnaround in the greater household spending.

The external sector, however, remains a weak link, goes on to report Nandi. Merchandise import growth has slowed because of gold imports, while export growth has also weakened.

The agriculture sector grew 5.3 percent, from 3 percent in the same period last year, largely reflecting a strong Rabi or winter-sown harvest. The monsoon rains, critical for the summer-sown kharif crop, has been slightly below normal this year so far, particularly in the grain bowl states in north India, but the shortfall isn’t alarming enough to pull down growth in the broader economy.

B Prasanna, Group Executive and Head-Global Markets Group, ICICI Bank said. "The performances of industry and agriculture have encouragingly improved. It probably indicates some employment generation in labour-intensive sectors," Construction activity has also rebounded strongly, growing 8.7 percent in April-June, from 1.8 percent in the same quarter last year, showing heightened activity in infrastructure, particularly road construction with strong multiplier effects across key sectors such as cement and steel.

The national income data also showed that government final consumption expenditure (GFCE) or government expenditure grew 7.5 percent at constant prices during the quarter-ended June to Rs 3.97 lakh crore from Rs 3.69 lakh crore during the same quarter a year ago. Gross Fixed Capital Formation (GFCF), a useful metric to measure corporate investment activity, grew 10 percent in April-June.

Prasanna said, "The continued improvement in investment is probably reflecting better business and policy climate and a sustained pickup in this component will ensure that overall growth will find a firm footing," adding that the underperformance of the services components is largely due to lackluster performance of the trade segment, which is probably still adjusting to the GST transition and concomitant formalization. Trade, hotels, transport, communication and services related to broadcasting grew at 6.7 percent in April-June as compared with 8.4 percent jump during the same period a year ago. Financial, real estate and professional services grew 6.5 percent, from 8.4 percent a year ago.

In quick summary – perhaps helped by the “base effect,” the GDP has clocked a nine-quarter high at 8.2 percent; manufacturing, consumption, corporate investment, construction activity have gone up’; the services sector has underperformed, perhaps because to the trade sector underperforming, which may in turn be due to the segment still adjusting to the GST transition.

Well, this is certainly good news for the country. But is this encouraging? If we are spending more, and consuming more, doesn’t high school economics teach us that Mr. Inflation would be an undesirable but a definite lurker around the corner? The answer is provided to us by the Reserve Bank of India, which in its annual report of 2017 titled Is consumption-led expansion sustainable? A case study of India pointed out, "Consumption-led growth can arguably lead to a slackening of future growth if it entails growing imbalances due to limits to capacity creation, and rising debt burdens, particularly for households."

The latest GDP report seems to indicate that there has been a growth in investment as well. Let’s examine what the fine print says. We spoke earlier of a measure called GFCF, which measures corporate investment activity. GFCF at a healthy 10 percent as reported for this quarter is certainly encouraging, but here are some more numbers to determine just how encouraging. In the March quarter of 2018, we saw a GFCF growth of 14.4 percent, against 5.95 percent growth we saw in March 2017.

The 10 percent GFCF growth we are seeing for June 2018 is against 0.8 percent growth we saw in the June quarter of last year. Manas Chakravarty, writing for Mint, summarises it thus: “Simply put, growth in gross capital formation in the June quarter slowed down, in spite of a favourable base effect. In other words, there’s been a loss of momentum in investment demand in the June quarter.” GFCF was 32.2 percent of GDP in March quarter, as opposed to 31.6 percent in the June quarter – meaning capital formation has actually decreased by 0.6 percent.

Consumption rise is obviously the big story of the report, but that also means a rise in personal lending. According to the RBI, “liabilities of the household sector went up from 2.4 percent of gross national disposable income in 2016-17 to 4 percent in 2017-18.” Let us not forget that inflation has already gone up - 4.8 percent in the June quarter from 2.4 percent in the March quarter.

World-beating GDP growth is still not enough, says Bloomberg. There still seems no respite from the deep job drought that India has. The government has not managed to give us accurate employment data – a challenge considering the large proportion of Indian labour is unorganized. Bloomberg said, “With its demographic tailwind and massive developmental needs, Asia’s third-biggest economy should be growing at double-digit rates. Holding India back are glacial economic reforms, a fragile banking sector, rigid labour laws.”  Jim O’Neill, a former Goldman Sachs Asset Management chair said, “It hasn’t embraced global trade and foreign direct investments in the way China aggressively succeeded.”

Let’s also not forget that India has seen better GDP growth numbers. The Economic Times reported that, “India’s economic growth numbers, adjusted for the base year of FY12, show that expansion was marginally higher under the new series after the economy picked up pace in FY04 and generally lower in the preceding years.” The report shows real GDP growth touching a high of 10.08 percent in 2006-07 in terms of factor cost, the highest since liberalisation of the economy in 1991 and the second highest ever, behind 10.2 percent during the Rajiv Gandhi administration in 1988-89. Under the old series, growth in 2006-07 was 9.57 percent. In terms of market prices, the highest growth was 10.78 percent in 2010-11.

That said, the numbers are encouraging indeed. But the apple cart – even if a small one – could be upset by macroeconomic triggers. We will be watching this space closely in the days to come.