Are we into an enduring economic recovery?

Dhananjay Sinha

Selective choice of indicators form obfuscating flow of information has prompted many to conclude in favour of a sustainable growth recovery. The debate is whether official indicators such as IIP and GDP reliably indicate economic resuscitation specially in the context of the fact that till recently the GDP numbers estimated real output growth around 4.5-5%, but has suddenly shown to have spiked up to 7.4% in terms of real value added. Recent prints of these benchmark indicators, including GDP, IIP, capital goods index, are suggesting a bounce back in growth and investments. Contrastingly, several other indicators suggest that the underlying momentum is still quite feeble.

Over the past year, the IIP growth has averaged higher at 2.6%, compared to FY14 average of -0.1%, there has been bounce in sale of commercial vehicles, indirect tax collections have jumped up 36% YoY for Apr-May this year. IIP data also show that the average growth for capital goods sector for past 12 months has risen to 5.8% compared to past six year average of 2.4%. But is the recovery as robust as some of these indicators suggest?

We believe it is still quite premature. There is definitely some impetus in the current fiscal from higher government spending, which was restrained last year to meet fiscal targets, there by inducing some short term demand impetus. But remember that the ability of the government to continue on the fiscal expansion is limited as the tax elasticity (growth in gross tax collection/nominal GDP growth) has declined due to an average of 0.8-0.9% over the past five years. Notwithstanding the rise in indirect tax collections during the initial months of the FY16, the direct tax collection, which is the progressive component of tax collections,contracted by 11% during the period. The recovery in industrial activities is not so strong and external trade is contracting sharply, contrasting the strong recovery in indirect tax collection. In our view, significant growth in indirect tax collection is attributable to increase in petroleum products duty and firming up of oil prices and is therefore contrasting with the sluggishness in the production activity.

The evidence from IIP numbers itself is quite tentative. Contrasting the initial indicators of strong growth in production activity IIP growth for May’15 disappointed with a growth of 2.7%. The detailed print confirms our belief of persistent weakness in consumption and slower than expected recovery in the capital goods sector. Weakness in the consumption is indicative of weak rural demand conditions and low government revenue spending. Also, private order inflows in capital goods sector have been weakest in Q1FY16 in last 2 years, notwithstanding the recent impetus provided by higher government capital spending. In addition, sectors closely associated with investment cycle, such as metals and cement are still reporting weak growth, thereby highlighting the tentative evidence of investment recovery. Going forward, with lower order inflows capital goods performance could likely frizzle Private investments which constitutes nearly 85% of total capital formation is likely to remain subdued due to a) decline or contraction in sales growth; b) lack of ability of banking sector to support investment expansion, c) leveraged corporates, d) NPA issues plaguing capital intensive sectors and e) decline in exports. FY15 quarterly performance of corporate India, in particular Q4Fy15, was worst on over a decade contrasting the recovery suggested by some the macro data releases. The continued declaration in credit growth to sub 10% along with decline in deposit growth to a multi-year low of 11% do not provide enough support to claims of enduring recovery.

Related stories

Dhananjay Sinha

Head of Research, Economist and Strategist|Emkay Global Financial Services

• 
  Daily Voice: ‘Bachat Utsav’ may fizzle out? Dhananjay Sinha warns of over-optimism in market ass...
• 
  Indian rupee can drop to 90-92 levels against dollar in next 6-10 months
• 
  Fed’s soft-landing mirage could morph into higher-for-longer again

We believe that unless the economics of investments are meaningfully achieved, it will not be easy to arrive at a convincing judgement of economic turnaround just on the basis of speedy approvals of projects, some cuts in rates and boosting government allocation. While higher public outlay in capital is a good thing, such indicators have only been two months old; in FY15 it was merely 10% of the total GoI expenditure. Long term history show that investment cycle has to be led by the private investments; proportion of public investments has been declining structurally since mid-1980 and currently is too small to move the needle, so quickly.

Having said all this we maintain that the required adjustment process to stimulate investments in the future has begun, but it is still too early to expect a quick turnaround as many domestic conditions are yet to evolve. And very importantly, the globalized world, the slowdown in China can elongate the recovery in investment cycle as the competitive pressure for the manufacturing sector can intensify.

Author is Head of Research, Economist & Strategist at Emkay Global Financial Services