The latest GDP data posed an interesting conundrum. In quarterly terms, while GVA growth rose to 6.8% in Q4 FY2025 from the upward revised 6.5% in Q3 FY2025, the pace of acceleration in the GDP growth was much sharper between these quarters, with the same printing at 7.4% vis-à-vis 6.4%. However, in annual terms the GVA and GDP growth both slowed down materially by 215-270 bps in FY2025, to 6.4% and 6.5%, respectively, from as much as 8.6% and 9.2%, respectively, in the previous year.
While an improvement in growth was anticipated in Q4 FY2025 vis-à-vis Q3, the extent of the acceleration was somewhat larger than our expectations, with the forecasts for the GDP growth print centred around the 6.5%-7.0% range for the quarter.
Impact of net indirect taxes
Notably, the material 102 bps acceleration in the GDP growth print between these quarters was largely led by net indirect taxes, which in turn was likely impacted by the unevenness in the trends in quarterly subsidy pay-outs. Consequently, this 7.4% GDP growth reading for Q4 FY2025 should be interpreted with some caution.
The relatively sedate, but certainly welcome, 27 bps acceleration in the GVA growth print between these quarters was mainly led by the industrial sub-sectors, particularly manufacturing and construction, which also outperformed ICRA’s expectations. The growth in services decelerated marginally to 7.3% from 7.4% in Q3 FY2025, led by the trade, hotels, transport and communication and services related to broadcasting, as well as public administration, defence and other services segments, while remaining above the 7.0% mark for the third straight quarter. Besides, the agri-GVA growth also slowed to 5.4% from 6.6%, between these quarters, while remaining healthy, supported by a low base as well as robust growth in the output of most rabi crops.
Boost from government capex and compression in imports
On the expenditure side, gross fixed capital formation (GFCF) was the only major component to have witnessed an acceleration in Q4 FY2025 compared to Q3, with the growth touching a six-quarter high of 9.4%, supported by strong expansion in capex of both the Centre and state governments. Moreover, net exports (in real terms) aided in bumping up the GDP numbers, amid an expansion in the surplus in Q4 as compared to Q3, led by the sharp contraction in real imports during the quarter.
The growth in consumption weakened between these quarters, led by a slowdown in private final consumption expenditure (PFCE) and a contraction in Government final consumption expenditure (GFCE), with the latter charting an uneven trend through the fiscal.
The slump in the GVA growth print to a four-year low of 6.4% in FY2025 from 8.6% in FY2024 was fairly broad based, with all sub-sectors, barring agriculture and public administration, defence and other services segments, witnessing a slowdown between these years. Notably, the growth in the manufacturing sector witnessed a significant deceleration to 4.5% in FY2025 from a striking 12.3% in FY2024, which had been boosted by a low base.
Some questions remain on the expenditure side
On the expenditure side, the 270 bps dip in GDP growth in FY2025 vis-à-vis FY2024 was led by Government consumption and investment activity, even as PFCE growth accelerated to 7.2% from 5.6%, and a lower drag was witnessed on account of net exports (in real terms) between these years. The 7.0%-plus growth in PFCE in FY2025 is quite at odds with the general commentary around the weakness in urban consumption activity.
Interestingly, a large delta was witnessed in discrepancies, with the print for H2 FY2025 being much wider than what was seen in H2 FY2024, suggesting that subsequent data revisions could throw up material changes in the growth of the expenditure side estimates.
Further easing by MPC is on the cards
So what does this portend for the MPC, when it meets next week? Annual growth has fallen sharply, but is hovering around the medium-term potential. With CPI inflation projected to remain sub-4% for a large part of this fiscal, the prevailing domestic growth-inflation dynamics will have to be kept centre-stage under the flexible inflation targeting framework, in our view. Therefore, further easing by the MPC is clearly on the cards, even though the US Federal Reserve may be set for an extended pause.
Baby steps may still be warranted, however, given the myriad sources of uncertainty, ranging from tariffs, to geo-politics to a niggling resurgence of Covid. A 25-bps rate cut is nearly certain next week, with two more similar cuts likely over the following two policy reviews, pulling down the repo rate from the current 6.0% to 5.25% by the end of the cycle.
The India-US 10-year bond yield spread has declined quite sharply to around 170 bps from 300 bps at end-September 2024. However, the INR has appreciated considerably from the all-time lows seen last month, taking the edge off the compressed spread. In our view, another 50 bps of easing have been factored into the current yield. If the final 25 bps of repo reduction materialises, the 10-year yield may still not decline appreciably below 6%. With this, the spread could ease further to 150 bps in the latter part of the calendar year.
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