A closer look at the data, however, seems it is more like government speak on the expected line (to shore up the sentiment) rather than one that is grounded on reality.
First let us focus on the agricultural sector. As compared to Q1 2008-09 when it recorded a growth of 3%, the farm sector grew by 2.4%. This is even lower than 2.7% growth in the immediate previous quarter. While this in itself need not be bad, fact is, the agricultural sector contains data of the Rabi crop. The effect of the severe drought on India’s Khariff crop is yet to be recorded and this is going to take a major hit in the coming quarters. Corollary – much subdued rural demand. Fact is, anecdotal evidence already suggests such a pull back as is being felt by many FMCG companies. Soon, even the automotive companies especially the tractor and the two-wheeler companies will feel the heat.
What has really carried the day, like the previous quarter, was higher government expenditure. As per the data, the Government Final Consumption Expenditure (GFCE) grew by as much as 10.24%, while the Private Final Consumption Expenditure (PFCE), or simply consumption demand, virtually stagnated (a growth of only 1.63%). Fact is, the 7.8% growth in Q1 2008-09 was fundamentally much stronger, because it was on the back of higher domestic demand, while the GFCE was stagnant. The current growth has been recorded on a steroid of higher governmental spending on the social sector (as part of the stimulus package), as was the case during Q4, 2008-09. What is more important to note here is that the rural demand generated by higher government spending in the rural sector and comparatively high growth of 2.7% and 2.4% during the last two quarters have still resulted in virtually unchanged domestic consumption. In essence, this means that the urban consumers are pulling back. Now as the effect of the stimulus package wanes as does the intensity of government expenditure, hamstrung as they are by higher deficit, and the farm sector growth rate falls, the GDP is bound to record lower growth.
This growth number also has a lot to thank the statistics for. Let me explain. India’s exports impacts the GDP positively, while imports do so negatively. So, higher trade deficit reduced GDP while lower deficit improves GDP. In case of India, while India’s exports in INR terms was lower by a little more than 10% during Q1, imports fell at more than double the rate (about 20.5%). As a result trade deficit improved, thereby impacting the GDP positively. Hence we have a curious situation wherein lower domestic demand has resulted in lower imports and hence improved GDP. This does not bode well for the future, for two reasons. As mentioned, it implies slackening domestic demand. More importantly, non-oil import was down substantially. This implies lower import of capital goods, which is an indication of lower business confidence going forward as investment slackens.
Even Gross Fixed Capital formation (GFCF) during this quarter was up by a mere 4.23%, while the same increased by close to 18% during the same quarter in the previous year. Similar phenomenon was also witnessed during Q4, 2008-09. In fact, domestic production of capital goods during the first quarter was up by a mere 1%, while the same for Apr-Jun 2008-09 was up by 7.9%. With lower investments, the economy is clearly lacking the necessary tailwind that can propel the economy forward.
With likely lowering of domestic demand, it is quite possible that manufacturing might be impacted further as manufacturers start to draw down on inventories. Inventories currently account for about 3.1% of the GDP. This is not unlikely as manufacturing grew by a much lower 3.4% as compared to 5.5%. Although this is better than the growth recorded in the previous two quarters, even the current growth rate might not be sustainable on the face of slowing demand. And, a drop in manufacturing growth rate will also pull down the overall GDP growth.
Looking at monthly numbers, there is some pick-up in domestic capital goods production off late, but sustainability remains a question. Going forward, it is very important to keep on manufacturing, especially on the capital goods sector, since investment demand will be an important growth driver.
In effect, I am sticking to my projection of a sub-six percent GDP growth for the full year, more likely to be about 5.8%.