The Indian economy slowed down in 2011-12, compared not just to the previous two years but 2003 to 2011 (except 2008-09). However, India remains among the front-runners.
With agriculture and services continuing to perform well, India’s slowdown can be attributed almost entirely to the weakening industrial growth. The manufacturing sector grew by 2.7 per cent and 0.4 per cent in the second and third quarters of 2011-12, respectively. Inflation as measured by the wholesale price index (WPI), was high during most of the fiscal year, though by the year’s end there was a clear slowdown. Food inflation, in particular, came down to around zero, with most of the remaining WPI inflation being driven by non-food manufacturing products.
Monetary policy was tightened by the Reserve Bank of India (RBI) during the year to control inflation and curb inflationary expectations.
The global economic environment turned sharply adverse in September 2011, owing to the turmoil in the euro-zone and questions about the outlook on the US economy provoked by rating agencies.
The macroeconomic situation in February 2011—at the time of presentation of Economic Survey 2010-11—looked positive, even though there was some concern about industrial slowdown. Economic Survey 2010-11 had anticipated that the Indian economy would register growth of around 9 per cent (+ or - 0.25 per cent) in 2011-12, almost reverting to the pre-crisis levels achieved during the three-year period, from 2005-06 to 2007-08. However, during the course of the year it became increasingly clear that economy would fall short of that growth rate by a significant margin.
At sectoral level, growth is estimated to be 2.5 per cent for 2011-12 for agriculture and allied sectors, a little lower than expected. Growth in the services sector is likely to be 9.4 per cent in 2011-12, as against 9.3 per cent in 2010-11. Thus, it was primarily the dip in growth in industry to 3.9 per cent in 2011-12 that led to the slowdown in real gross domestic product (GDP) growth .
Domestic factors, namely the tightening of monetary policy, in particular raising the repo rate in order to control inflation and anchor inflationary expectations, resulted in some slowing down of investment and growth, particularly in the industrial sector. Since monetary policy operates largely through demand compression in the short run, the expectation is that this policy will in fact bolster long-run growth. The 2008-09 down-turn came to India when the country’s fiscal balances were robust. Hence, there was ample scope for fiscal and monetary stimulus. As in most parts of the world, this second slowdown came so quickly on the heels of the previous one that the latitude in terms of fiscal and monetary policy was much more limited.
The growth rate of investment in the economy registered a significant decline during 2011-12. The year also witnessed a sharp increase in interest rates that resulted in higher costs of borrowings; and other rising costs affecting profitability and, thereby, internal accruals that could be used to finance investment. In 2010-11, the growth in gross capital formation, particularly fixed capital formation, was substantially lower than had been achieved in 2005-06 to 2007-08. The investment rate continued to be lower than the peak level achieved in 2007-08.
Despite difficult conditions in the global economy, exports continued to be robust in 2011-12 and registered a growth rate of 14.3 per cent in real terms over and above 22.7 per cent growth achieved in the previous year (2010-11), as per Advance Estimates. Imports are likely to end the year with a real growth rate of 17.5 per cent.
There was a reduction in investment rates, both in the public and private sectors, particularly the corporate sector, in 2010-11. Reduction in corporate investment could be attributed to global factors, with the global economy exhibiting signs of slowing down in the second half of 2010, as well as to domestic factors, namely increased cost of borrowing following the raising of interest rates in order to control inflation. Fixed investment as a ratio of GDP peaked in 2007-08 and has continued to register a decline since then, falling from 31.6 per cent in 2009-10 to 30.4 per cent in 2010-11.
At 2.8 per cent of GDP, the savings-investment gap during 2010-11 remained at the same level as in 2009-10. This reflected the need to finance the investment requirement from foreign savings (current account deficit). The gap, in excess of 2 per cent of GDP, has been at relatively elevated levels (since 2008-09). The savings-investment gap narrowed both in the public as well as private sectors in 2010-11 vis-Ã -vis 2009-10. For the public sector, it narrowed from -9.0 per cent of GDP to -7.1 per cent.
The increase in the revenue levels, thanks partly to substantial increase in non-tax revenue receipts in the year 2010-11, and the process of fiscal consolidation were among the factors responsible for narrowing of the public sector’s savings-investment gap.
In the medium to long term, growth of an emerging economy depends, to a large extent, not only on overall level of investment but also on its sectoral composition, reflecting the transformation taking place. However, annual growth rates of investment, both at aggregate and sectoral levels may vary, depending on expectations of profitability, sales, etc.
Historic Background
The rate of growth of Indian economy, between 1950-51 and 1990-91, was 4.1 per cent. In contrast, between 1991-92 and 2011-12 the economy registered a growth of 6.9 per cent. While in the four decades from 1951-52 to 1991-92, the growth rate in terms of GDP at factor cost (at 2004-05 prices) was more than 6 per cent only in 10 years, between 1992-93 and 2011-12 (including the AE for 2011-12) (a time-span covering 20 years, inclusive of both observations) the growth rate has been over 6 per cent in as many as 14 years. The growth rate has accelerated significantly since 2003-04. Between 2003-04 and 2011-12, the economy registered a growth of 8.2 per cent per annum. In fact, during this period, the growth rate has never fallen below 6.7 per cent and has been over 8 per cent in six of these nine years. All the three major sectors of the economy, namely agriculture, industry, and services witnessed higher-than-trend growth rates at 3.9 per cent, 8.0 per cent, and 9.6 per cent, respectively. Clearly the services sector has emerged as the key driver of growth in the Indian economy.
This accelerated growth could partly be attributed to an increase in savings and investment rates, which averaged 33.1 per cent and 34.3 per cent, respectively, during the period between 2003-04 and 2010-11. The average savings and investment rates in the 1990s were 23.0 per cent and 24.3 per cent, respectively. Sustaining and accelerating this growth further could be crucial for attaining higher per capita income and other objectives that aim at enhancing human welfare as reflected by the inclusive development agenda
The contributions of the agriculture and allied sector, industry sector, and services sector also underwent significant changes overtime. The long-term growth rate of the agriculture sector (over the last 60 years) has been 2.7 per cent. It was 2.3 per cent between 1950-51 and 1980-81 and 3.1 per cent during 1980-81 to 2011-12. Growth in the industry sector increased from 5.2 per cent in the earlier period to 6.4 per cent between 1980-81 and 2011-12. Similarly, growth in the services sector was 4.4 per cent and 7.8 per cent, respectively, during these two sub-periods.
The structure of the economy has also undergone significant changes over time. Between 1950-51 and 1980-81, the industrial sector registered a higher growth rate than the services sector. The converse has been the case since then. This resulted in the share of the industry sector in GDP increasing by around 9 percentage points from 16.6 per cent to 25.9 per cent during the period from 1950-51 to 1980-81. The share of the services sector increased from 30.3 per cent in 1950-51 to 38 per cent in 1980-81. It started growing rapidly thereafter and this phenomenon became more pronounced in the 1990s. Consequently, since 1980-81, the share of the industry sector has remained in the range of 26 to 28 per cent of GDP, while the entire decline in share of agriculture has been balanced by an increase in share of the services sector. Thus, the resilience of the economy to shocks owe to the services sector which has the largest share and most consistent growth performance.
Agriculture and Food
Agriculture, including allied activities, accounted for 13.9 per cent of GDP at 2004-05 prices in 2011-12, as compared to 14.5 per cent in 2010-11. In terms of composition, out of a total share of 14.5 per cent in GDP in 2010-11, agriculture alone accounted for 12.3 per cent, followed by forestry and logging at 1.4 per cent, and fishing at 0.7 per cent. Notwithstanding the declining trend in agriculture’s share in GDP, the importance of the sector to the economy is best understood with reference to its share in employment and in terms of its criticality for macro-economic stability. While the former was well known, the latter became manifest with rising growth in incomes since the mid-2000s.
Hence, growth in agriculture and allied sectors remains an important objective and a ‘necessary condition’ for inclusive growth. The average annual growth in agriculture and allied sectors realized during the Eleventh Plan Period was 3.3 per cent, against the targeted growth rate of 4 per cent. The sector recorded slightly lower average growth than targeted in the Eleventh Plan period due to severe drought experienced in most parts of the country during 2009-10 and drought/deficient rainfall in some States, namely Bihar, Jharkhand, eastern UP, and West Bengal in 2010-11. However, timely and corrective measures taken by the government helped boost agricultural production and growth in the sector reached 7.0 per cent in 2010-11, the highest growth rate achieved during the last six years. In 2011-12 agriculture and allied sectors are estimated to achieve a growth rate of 2.5 per cent. However, it is a matter of concern that agricultural growth is still, to a certain extent, characterized by fluctuations due to the vagaries of nature, though there has not been actual decline in terms of output since 2002-03.
In 2010-11 a significantly high level of 244.78 million tonnes of foodgrains production was achieved. As per the second AE, production of foodgrains during 2011-12 has been estimated at 250.42 million tones, owing to increase in the production of rice in some of the major rice-producing states of the country, namely Assam, Bihar, West Bengal, Jharkhand, and Uttar Pradesh.
The stock position of foodgrains in the central pool, as on February 1, 2012 was 55.2 million tonnes, comprising 31.8 million tonnes of rice and 23.4 million tonnes of wheat, which is adequate for meeting the requirements under the targeted public distribution system (TPDS) and welfare schemes 2011-12. The higher levels of agricultural output and ample food stocks augur well for bringing down headline inflation.
Industry and Infrastructure
Industrial growth, measured in terms of the index of industrial production (IIP), shows fluctuating trends. Growth had reached 15.5 per cent in 2007-08 and then started decelerating. Initial deceleration in industrial growth was largely on account of the global economic meltdown. There was, however, a recovery from 2.5 per cent in 2008-09 to 5.3 per cent in 2009-10 and 8.2 per cent in 2010-11. Fragile economic recovery in the US and Europe and moderately subdued expectations at home affected the growth of the industrial sector in the current year.
Cumulative growth in April-January 2011-12, in eight core sectors has been 4.1 per cent, as compared to 5.7 per cent during the corresponding period of the previous year. While four sectors, namely coal, fertilizers, cement, and electricity, showed positive growth during January 2012, other four sectors—crude oil, natural gas, refinery products and steel—registered negative growth.
Electricity generation by power utilities during 2011-12 was targeted to grow by 5.4 per cent to reach 855 billion units. Growth in power generation during April-January 2011-12 was 8.6 per cent, as compared to 5.2 per cent during April-January 2010-11. Production of crude oil is estimated at 38.19 million metric tonnes (MMT), which is about 1.33 per cent higher than the 37.70 MMT produced during 2010-11. Domestic crude oil production during April-December 2011-12 was 28.70 MMT, showing a growth of 1.9 per cent over the same period of the previous year.
The telecom sector continued to grow, with the total number of telephones increasing from 206.8 million on March 31, 2007 to 926.95 million on December 31, 2011. Tele-density has increased from 18.2 per cent in March 2007 to 76.8 per cent in December 2011.
Services Sector
The share of services in India’s GDP at factor cost (at current prices) increased from 55.1 per cent in 2010-11 and 56.3 per cent in 2011-12, as per Advance Estimates. Trade, hotels, and restaurants as a group, with 16.9 per cent share, is the largest contributor to GDP among the various services sub-sectors, followed by financing, insurance, real estate, and business services with 16.4 per cent share.
While agriculture continues to be the primary employment-providing sector, the services sector is the principal source of employment in urban areas. As per the National Sample Survey Organization’s (NSSO) report on the ‘Employment and Unemployment Situation in India, 2009-10’, for every 1,000 people employed, 679 and 75 people are employed in agriculture sector in rural and urban areas, respectively, (measured in terms of usually working persons in the principal status and subsidiary status). On the other hand, the services sector accounted for 147 and 582 of every 1,000 persons employed in rural and urban areas, respectively.
Prices
Headline WPI inflation remained persistently high and relatively sticky at around 9 per cent during 2011. The major contributory factors to headline inflation during the current financial year include (a) higher primary articles prices driven by vegetables, eggs, meat, and fish due to changing dietary pattern of consumers; (b) increasing global commodity prices especially metal and chemical prices which ultimately led to higher domestic manufactured prices; and (c) persistently high international (Brent) crude petroleum prices in the last two years averaging around $ 111 per barrel (/bbl) in 2011 (January-December) as compared to $ 80/bbl in 2010 (January-December).
Compared to a relatively stable inflationary period in the earlier part of the last decade, average headline WPI inflation started to rise in 2008-09 and persisted. The pressure was mainly from primary and fuel products with average inflation in these commodities remaining continuously in double digits for a major period since 2008-09. In comparison, inflation in manufactured products remained relatively stable, dropping sharply in 2009-10 because of the global economic crisis and its impact in India, before it started to pick up and exceed its long-run average of around 5 per cent in early 2011-12. Among individual product groups, inflation in food products, beverages, textiles, chemicals, and basic metals remained elevated mainly on account of high global commodity prices.
Reining in inflation and containing inflationary expectations were the dominating objectives of monetary policy during 2011-12. The RBI hiked the repo rate 13 times between March 2010 and January 2012, cumulatively by 375 basis points (bps). With supply-side factors feeding into food inflation and an uncertain economic scenario in advanced countries necessitating repeated liquidity injections by these countries to counter recessionary trends, the task of monetary policy calibration was particularly challenging. Sustained rate increases have, to an extent, impacted growth negatively. However, the period from December 2011 to January 2012 marked a reversal of the cycle with the RBI in its Third Quarter Review of Monetary Policy keeping the repo and reverse repo rates unchanged at 8.5 per cent and 7.5 per cent, respectively. The cash reserve ratio (CRR), however, has been reduced from 6.0 to 5.5 per cent in order to ease the liquidity situation and aid revival of growth.
Financial Markets
The weak global economic prospects and continuing uncertainties in the international financial markets had their impact on emerging market economies like India. Sovereign risk concerns, particularly in the euro area, affected financial markets for the greater part of the year, with the impact of Greece’s sovereign debt problem spreading to India and other economies by way of higher-than-normal levels of volatility.
Subdued foreign institutional investor (FII) inflows into the country led to a decline in Indian markets and contributed to the sharp depreciation of the rupee in the forex market, though much of the depreciation was due to ‘flight to safety’ by foreign investors, given the meltdown in Europe and inflation in emerging market economies. Moderation in the growth rate of the economy also affected market sentiments.
International Trade
The resilience of India’s trade can be seen from the fact that the growth of exports and imports, which was (-)3.5 per cent and (-)5 per cent, respectively, in 2009-10 as a result of the 2008 global economic crisis, rebounded to 40.5 per cent and 28.2 per cent in 2010-11. India not only reached pre-crisis levels in exports but also surpassed pre-crisis trends in export growth rate, unlike many other developing and even developed countries. India’s share in global exports and imports also increased from 0.7 per cent and 0.8 per cent, respectively, in 2000, to 1.5 per cent and 2.2 per cent in 2010.
The highlight of BoP developments during 2011-12 was merchandise exports of US$ 150.9 billion in the first half of the year, which represented an increase of over 40 per cent over the corresponding period in 2010-11. Imports of US$ 236.7 billion during April-September 2011 recorded an increase of 34.3 per cent over April-September 2010. The trade deficit was higher at US$ 85.8 billion (9.4 per cent of GDP) during the first half of 2011-12, vis-Ã -vis US$ 68.9 billion (8.9 per cent of GDP) in the first half of 2010-11. This was mainly on account of increase in international prices of imported commodities, namely oil and gold and silver during the first half of 2011-12.
Net capital flows at US$ 41.1 billion in the first half of 2011-12 remained higher as compared to US$ 38.9 billion in the first half of 2010-11. Under net capital flows, foreign direct investment (FDI) has shown considerable increase at US$12.3 billion during the first half of 2011-12, vis-Ã -vis US$ 7.0 billion in the corresponding period of 2010-11. Similarly, ECBs increased to US$ 10.6 billion during the first half of 2011-12, as against US$ 5.7 billion in the first half of 2010-11. Portfolio investment, mainly comprising FII investments and American depository receipts (ADRs)/global depository receipts (GDRs), however, witnessed large decrease in inflows to US$ 1.3 billion in the first half of 2011-12 vis-Ã -vis US$ 23.8 billion in the first half of 2010-11
In fiscal 2010-11, foreign exchange reserves increased by US$ 25.7 billion, from US$ 279.1 billion at end March 2010 to US$ 304.8 billion at end March 2011. Of the total increase in reserves, US$12.6 billion was on account of valuation gains arising out of depreciation of the US dollar against major currencies and the balance US$ 13.1 billion was on BoP basis. In 2011-12, the reserves increased by US$ 6.7 billion from US$ 304.8 billion at end March 2011, to US$ 311.5 billion at end September 2011. Out of this total increase, US$5.7 billion was on BoP basis and the balance US$1.0 billion on account of valuation effect.
External Debt
India’s external debt stock stood at US$ 326.6 billion at end-September 2011, recording an increase of US$ 20.2 billion (6.6 per cent) over end March 2011 estimates of US$ 306.4 billion. This increase was primarily on account of higher commercial borrowings and short-term debt, which together contributed over 80 per cent of the total increase in the country’s external debt.
The maturity profile of India’s external debt indicates the dominance of long-term borrowings. The long-term external debt at US$ 255.1 billion at end September 2011 accounted for 78.1 per cent of the total external debt, while the remaining 21.9 per cent was short-term debt. Government (sovereign) external debt stood at US$ 79.3 billion, while non-government debt amounted to US$ 247.3 billion at end September 2011. India’s external debt has remained within manageable limits as indicated by the external debt to GDP ratio of 17.8 per cent and debt service ratio of 4.2 per cent in 2010-11. This has been possible due to an external debt management policy of the government that emphasizes monitoring of long- and short-term debt, raising sovereign loans on concessional terms with long maturities, regulating ECBs through end-use and all-in-cost restrictions, and rationalizing interest rates on NRI deposits.
Future Prospects
The financial crisis in Europe, along with certain exogenous shocks like the Japanese nuclear disaster, resulted in a sharp global economic slowdown during 2011-12. There is no doubt, however, that a part of India’s slowdown is rooted in domestic causes. The persistent inflation that remained over 9 per cent for much of the year and needed to be tamed played a role. There were also the pressures of democratic politics, which slowed reforms.
The main reason for the recovery to be initially slow is the slight decline in investment rate. In the third quarter of 2011-12, gross fixed capital formation as a ratio of GDP was 30 per cent, down from 32.3 per cent one year ago. But as fiscal consolidation gets back on track, savings and capital formation should begin to rise. Moreover, with the easing of inflationary pressures in the months to come, there could be a reduction in policy rates by the RBI, which would encourage investment activity that could have a positive impact on growth. These factors, along with the fact that India’s investment rate at 35.1 per cent, is still an impressive figure, should result in growth consolidating in 2012-13 and picking up rapidly thereafter. Preliminary calculations suggest that the growth rate of GDP in 2013-14 will be 8.6 per cent. Long-term forecasts, of course, always come with a larger margin of error. These projections are based on assumptions regarding factors like normal monsoons, reasonably stable international prices, particularly oil prices, and global growth somewhere between where it now stands and 0.5 per cent higher.
Agricultural growth in the Eleventh Five Year Plan has been less than the target of 4 per cent despite a clear improvement compared to the previous plan periods. Though agriculture has now shrunk as a proportion of GDP to 13.9 per cent, as is only to be expected of a growing economy, it is vital sector and provider of livelihood for more than 50 per cent of the population. How this sector performs also has large implications for overall prices and, hence, it is a sector deserving of special attention. The area under foodgrains production has declined over the last three decades. That in itself is not worrying, but what is of concern is the low productivity of Indian agriculture. In yield parameters, India is lagging behind global levels in most crops. Concerted and focused efforts are required for addressing the challenge of stagnating productivity levels in agriculture. A holistic approach, simultaneously working on agricultural research and development, dissemination of technology, and provision of agricultural inputs such as quality seed, fertilizers, pesticides, and irrigation, would be important. Above all, the need is to raise investment in agriculture.
It is also important to understand that productivity itself will get a fillip if the supply chain from farm to consumer can be improved. This will lead to farmers getting a higher price for their products and be an incentive for them to invest and produce more. The crux of an improved supply chain is not for government to try to provide this directly by the public service delivery authorities but to take policy steps that facilitate private players to provide this vital service.
In 2010-11 and 2011-12, there was a slight moderation in services growth, mainly due to the steep fall in growth of public administration and defence services, creating some fiscal space for the government. Growth in trade, hotels, and restaurants is more robust at 11.2 per cent. If interest rates remain elevated, there would be some concern about growth in real estate, ownership of dwellings, and business services which has started decelerating. The outlook for some of the services in the economy is also linked to the global prospects. While software services exports have continued to be steady, the unfolding events in the euro area could lead to some sluggishness in this sector. The growth in fair-weather business services which has already shown signs of deceleration may not get better. Among the other two major services, transportation has already been affected with the Baltic dry index at an all-time low, though this may be of a passing nature. While travel and tourism could also be affected, it could also lead to a shift in tourist inflow pattern with increased inflow of holiday backpackers searching for cheaper destinations like India. The rise in tourists from South Asia, East Asia, and South East Asia could further help this sector.
The recent regulatory prescriptions for European banks have brought in fears of de-leveraging. Indian banks are not expected to have any direct impact on account of their negligible exposure to the troubled zone. However, there could be indirect impact on account of funding pressures. The scope for counter-cyclical financial policy could be explored in financial regulations in order to minimize the negative impact of accumulated financial risks. This will go a long way in providing needed stability to the financial system.
Going forward, fiscal consolidation would need to be anchored in a framework that addresses some of the risks like rise in crude prices. Besides, micro-foundational reforms are needed for achieving desired macro-economic outcomes.
This feature is based on Economic Survey 2012
