This slowdown is deep and prolonged

N Madhavan | Updated on December 06, 2019

A perfect storm of factors has created this situation — a disruptive monsoon, high NPAs and self-defeating policies

In just four quarters, India’s economic growth has declined from 8 per cent to a six-year low of 4.5 per cent. Though ominous, the pace of slowdown has not come as a surprise to many as various economic indicators pointed to this.

The core sector growth has declined for the second month in a row. In October, six out of eight core sectors that are tracked were in the red. Credit flow from the banking sector has been tepid for a while now.

The agrarian crisis and the consequent fall in rural consumption has caused the 2017-18 consumer spend to decline for the first time in four decades. The RBI’s Consumer Confidence Index in Q2 was at a 30-quarter low. Unemployment is at a 45-year high.

All of these are hurting investment in the economy. Gross Fixed Capital Formation, a measure of investment, grew by just 1 per cent in Q2 FY20. The investment rate at 27.6 per cent is the lowest in 11 quarters.

On the face of overwhelming evidence and after junking its own data many a times, the government has finally acknowledged the slowdown. The RBI has revised downwards the projected FY20 GDP growth to 5 per cent from earlier 6.1 per cent.

This would mean the second half of this fiscal will grow faster at 5.5 per cent against the 4.8 per cent in the first.

Don’t celebrate yet. Low base effect and government spending will push up the growth a bit but a sustained revival in the pace of growth appears difficult as many factors are conspiring to make this slowdown deep and prolonged.

Extended monsoon: Initially it looked like a smart catch-up in August and September after the South-West Monsoon set-in a bit late. The RBI, in fact, banked on this while cutting the policy rate by 25 basis points at the Fourth Bi-monthly policy meeting early October.

It had hoped that abundant rains and the consequent improvement in the soil moisture and storage levels would help revive the rural sector resulting in higher farm income, better rural employment thus boosting consumption.

But the monsoon refused to abate. It continued to pour and began withdrawing only on October 9, more than a month late. This meant that crops that were ready could not be harvested as fields were waterlogged.

Oilseeds, pulses, cotton, onion and sugarcane were hit badly. Sugar production as of end-November is already down 54 per cent.

Onion prices have gone through the roof. With crop loss expected to be significant, the farm distress is set to continue smothering any revival in rural demand which is key for economic revival.

Rising retail inflation: The havoc the extended monsoon created is already being felt. Food inflation has risen sharply in October to 6.9 per cent, a 39-month high. This has caused retail inflation, measured by changes in Consumer Price Index (CPI), to jump to 4.6 per cent forcing the central bank to revise upwards its CPI inflation outlook to 5.1-4.7 per cent for the second half of this fiscal year.

The RBI’s Monetary Policy Committee, after determining that the rising inflation is unlikely to moderate below the medium term target of 4 per cent before the second quarter of FY 21, chose not to reduce the policy rates in its December meeting. The much expected monetary stimulus failed to materialise.

Spectre of NPAs: In the absence of a rate cut, the focus ideally should shift to monetary policy transmission. Only a small portion of the past rate cuts has been passed on by the banks to their customers. But fear of a fresh set of NPAs hitting the banking system could come in its way.

A slowing economy creates non-performing assets (NPAs) and to add to this is the rising delinquency among Mudra loans.

In fact, reports suggest that banks are already going slow on Mudra loans fearing NPAs. If the transmission does not happen, the monetary stimulus needed for fuelling growth will be found wanting.

Fiscal limitation: Lack of monetary stimulus will complicate matters as the government is in no fiscal position to otherwise pump-prime the economy.

As of now, the fiscal deficit is already 102 per cent of the Budget estimates. Worse, its revenue targets look hopelessly unrealistic. The nominal GDP growth at 6.1 per cent in Q2 is half of the 12 per cent growth assumed in the Budget. Actual revenues are expected to be far lower than the estimates.

The government will soon be left with two options — cut back on expenditure to meet the deficit target or blow the fiscal deficit target of 3.3 per cent it has set for itself. It is choice between the devil and the deep sea.

Global slowdown: Worsening global economic condition is not helping the government either. The World Bank expects 2019 to end with a 2.6 per cent growth and has projected 2020 at 2.7 per cent but has warned of substantial risks. Advanced countries are slowing down and this is causing problems for emerging economies.

The US-China trade war is also showing no signs of ending. India’s exports in Q2 declined by 0.4 per cent.

Crude oil prices: A slowing global economy should mean low oil prices. But petroleum exporting countries (OPEC+ Russia) are meeting in Vienna this week to extend the production cut of 1.2 million barrels per day that is in place now. Increasing the quantum of cut by 400,000 barrels is on the agenda too. Saudi Arabia is backing such a move with an eye on the Saudi Aramco listing.

If a higher cut is agreed, oil prices will rise and add to India’s inflation woes.

Hara-kiri: If all these factors are not enough, newly elected State governments have started a new trend of reviewing or even stopping projects approved by the earlier dispensation.

It happened in Andhra Pradesh (AP) and the same is being repeated in Maharashtra. Will Jharkhand go the same way. Such moves will hit investor confidence in the long run and, more immediately, accentuate the slowdown.

Published on December 05, 2019

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