The Hindu Business Line : Economy: Growth drivers getting more broad-based

There are indications that the industrial sector could catch up and even grow at a higher rate than the services, driven by the strong performance of the manufacturing segment. This will help in further broad-basing of the
growth process.

S. D. Naik

The Reserve Bank of India’s Annual Report for 2006-07 exudes optimism about the continuation of the strong growth momentum with the impulses of growth getting more broad-based. It says: Steady increases in gross domestic savings and investment rates, consumption demand, addition to new capacity as well as more intensive and efficient utilisation/capitalisation of existing capacity are expected to provide support to growth in 2007-08.

Real GDP growth accelerated to 9.4 per cent in 2006-07 from 9 per cent in 2005-06 and averaged 8.6 per cent during the four-year period (2003-04 to 2006-07) and 7.6 per cent during the Tenth Plan period (2002-03 to 2006-07). This is close to the targeted 8 per cent for the Plan period and significantly higher than that of 5.7 per cent during the 1980s and 1990s indicating that the economy has now entered a higher growth trajectory.

GROWTH DRIVERS

The growth of the economy in recent years is largely driven by the industrial and services sectors. The growth of the industrial sector averaged 8.0 per cent during the Tenth Plan period compared to 5.7 per cent in the 1990s and 6.4 per cent in the 1980s. Based on the movements in the index of industrial production (IIP), industrial growth accelerated from 8.2 per cent in 2005-06 to 11.5 per cent in 2006-07 with the growth of the manufacturing sector touching 12.5 per cent, the highest since 1995-96.

According to CSO’s revised estimates, the real GDP growth originating from the services sector accelerated from 10.3 per cent in 2005-06 to 11 per cent in 2006-07. The growth of this sector in the preceding five years ending 2004-05 had averaged 8.5 per cent. The sector has thus remained a key driver of growth over the past few years. However, there are now indications that the industrial sector could catch up and even grow at a higher rate than the services, driven by the strong performance of the manufacturing segment. This will help in further broad-basing of the growth process.

Among the other factors that supported the growth impulses include the sustained strength and vibrancy of the external sector. The country’s merchandise exports have grown at over 20 per cent over the past few years and thanks to the robust growth in exports of software and other services, the net surplus under invisibles expanded to 6 per cent of GDP in 2006-07 from 2.1 per cent in 2000-01.

Some of the cyclical factors that boosted domestic growth include: robust global GDP growth for the fourth successive year;

the persistent high growth in bank credit and money supply;

pick up in non-oil import growth and the widening of trade deficit in recent years. Cyclical forces were also evident in the steady increase in prices of manufacturing and a resurgence of pricing power among corporates.

SAVINGS AND INVESTMENTS

The most important among the structural changes that provided support to the growth process is the significant increase in savings and capital formation. The domestic savings and investment rates reached record highs in 2005-06. Gross domestic savings rose to 32.4 per cent of GDP in 2005-06 from 31.1 per cent in 2004-05 and 23.5 per cent in 2001-02. Significant increase in corporate profitability has been a major contributory factor to the impressive increase in the domestic savings rate. The corporate savings rate more than doubled to 8.1 per cent in 2005-06 from 3.7 per cent in 2001-02.

The domestic investment rate rose to 33.8 per cent of GDP in 2005-06, a big jump from 22.9 per cent in 2001-02. This has been led by the more than doubling of the private corporate sector investment to 12.9 per cent of GDP in 2005-06 from 5.4 per cent in 2001-02.

The robust investment activity is also reflected in the performance of the domestic capital goods sector as also the imports of capital goods. The growth of this sector accelerated from 15.8 per cent in 2005-06 to 18.2 per cent in 2006-07. Imports of capital goods logged a growth of 40.6 per cent in 2006-07 on top of 49.9 per cent in 2005-06. In fact, capital goods remained the mainstay of imports accounting for almost 61 per cent of the increase in non-oil imports during

2006-07.

The foreign direct investment (FDI) in India also saw a sharp jump from $7.7 billion in 2005-06 to $19.5 billion in 2006-07 on the strength of expansion of domestic activity, progressive liberalisation of the FDI policy regime, and simplification of procedures. The rising pace of mergers and acquisitions in sectors such as financial services, manufacturing, banking services, information technology and construction also boosted FDI inflows.

DECLINE OF AGRICULTURE

As in its earlier Annual Reports, the RBI has once again listed the low growth in agriculture and volatility in agricultural production as a major area of concern. While the share of agriculture in GDP has declined drastically from 40 per cent in 1980-81 to les than 20 per cent in 2006-07, almost 60 per cent of the population still depends on this sector. The per capita availability of foodgrains has now fallen to the levels prevailing during the 1970s.

Indian agriculture is becoming increasingly unsustainable both from the point of view of overall economic progress and environmental balance. The sector has suffered because of the decline in public investment and sharp increase in subsidies. While subsidies may provide short-term benefits, they tend to hinder long-term investments. As noted by the Prime Minister, the weak performance of the farm sector can be attributed to four deficits: Public investment and credit deficit, infrastructure deficit, market economy deficit and knowledge deficit.

Stagnation and volatility in agricultural production has not only implications for overall growth but also for maintaining low and stable inflation. The Report emphasises that enhanced growth in agriculture is vital for ensuring food security, poverty alleviation, price stability, overall inclusive growth and sustainability of growth of the overall economy.

POLICY PRIORITY

The RBI Report says that supply constraints emanating from shortfalls in agricultural performance and physical and social infrastructure could constrain future growth while also exerting inflationary pressures. In an environment of demand-supply mismatches, inflation can emerge as a key downside risk to the evolving macroeconomic outlook.

In this regard, the Report says that policy priority needs to be accorded to:

removal of infrastructure constraints;

improving investment climate, especially for small and medium enterprises;

stepping up growth of agriculture, in particular production of foodgrains to ensure food security;

strengthening of institutional and micro structural environment that enhances flexibilities, especially supply elasticities in the economy; and

fiscal empowerment, emphasising provision of education, health, water and sanitation along with an equitable tax structure.