GDP growth may cool off

The government's advance estimate of GDP for FY-11, while suggestive of a clear rebound in the economy from the 2009 slump, also hints at a moderation in growth that appears to have taken shape from the second half of FY-11. The estimate for FY-11 pegs real GDP growth at 8.6 per cent, higher than the 8 per cent growth clocked in FY-10. However, this annual growth rate is lower than the 8.9 per cent growth clocked in each of the two quarters in the first half of FY-11.

The estimate thus appears to spell a note of caution for the GDP growth in upcoming financial year on three counts: One, it clearly hints at an agriculture-driven growth for this fiscal backed by an exceptionally good monsoon and record output; the possibility of a similar occurrence in FY-12 cannot be assured, what with a high base.

Two, the impact of a sharp deceleration in estimated growth in government expenditure for FY-11 is likely to be fully felt in FY-12. Three, the estimate suggests that manufacturing growth has slowed in the second half of this fiscal. Thus, what could be termed as a recovery driven by inflationary winds may well move into a zone of moderation. And here's why.

EXCEPTIONAL AGRI GROWTH

After a drought condition in FY-10 resulted in agricultural GDP growth inch up by a mere 0.4 per cent, the 5.4 per cent surge in FY-11 in agriculture has largely been the reason behind the robust GDP estimate. The 5.4 per cent estimate is the highest in agriculture in over five years.

Even assuming a normal monsoon, the increasing shift of labour to NREGA schemes (recent wage hikes only making it more compelling) is beginning to pose a serious threat to agricultural productivity. Hence an agriculture-driven GDP growth may be a remote possibility.

MODERATION IN MANUFACTURING

Industrial growth, too, is estimated to be marginally higher at 8.3 per cent in FY-11, against 8.1 per cent in FY-10. However, a break-up of the components reveal a slowdown creeping in from the second half of FY-11.

Take the case of manufacturing that forms a major chunk (close to 60 per cent) within the industry classification: The advance estimates suggests an 8.8 per cent real growth in manufacturing for this fiscal, similar to the expansion in FY-10. Our calculation of growth for the second half-year (based on the full year's forecast) reveals that manufacturing growth for the September 2010-March 2011 period would only be 6.4 per cent, against 11.3 per cent in the first half of the fiscal.

The full-year advance estimate appears rather strong, basking as it does in the glory of earlier quarters; but a moderation in manufacturing could pose some impediments to GDP growth. Recent trends in IIP is also suggestive of a similar moderation. A smililar trend is visible in the next big component of industry - construction.

CAPACITY UTILISATION

Whether the deceleration in growth is likely to extend to FY-12 would depend on what factors have caused the deceleration. The RBI's survey on capacity utilisation of key industries provides some clues. While utilisation in most industries other than cement has improved, the overall utilisation remains below the peaks in December 2009 and March 2010.

With increasing inflationary pressures, it remains to be seen whether there would be a sufficient demand push for companies to improve utilisation. This said, lack of timely capex additions in some sectors can also hamper growth. Anecdotal evidence suggests that supply constraints in the auto component industry have resulted in shortage of parts hampering automobile activity as well.

However, an estimated 8.4 per cent expansion in fixed assets (gross fixed capital formation) against 7.3 per cent in FY-10 implies that fresh capacities, at least in key sectors such as power and steel, could release bottlenecks.

The other threat to domestic manufacturing growth, either as a fall-out of supply constraints or due to cost disadvantage, is the substitution of domestic goods by imports.

Resource constraints and policy issues have resulted in this situation in commodities such as coal and oil; higher import of manufactured goods such as metal products, power equipment and textiles have shown tendencies to significantly cut into domestic manufacturing. The recent bulk orders for Chinese power equipment is a case in point.

Added to this, a roll-back of fiscal stimuli doled out by the government in 2009 in order to narrow the deficit may once again place companies in some of the sectors out of favour vis-à-vis their foreign counterparts.

Given the constraints, what could buttress the 8 and odd per cent growth estimated by economists for FY-12?

GROWTH DRIVERS

Backed by a strong private final consumption expenditure of 8.2 per cent, the consumer-driven manufacturing sectors could well thrive, thanks to the rural consumption story. In view of the recent hikes in NREGA wages (NREGA rates have grown at a compounded rate of 15-40 per cent in the last two years in different states) the less labour-intensive, consumer-driven sectors could be the beneficiaries of higher rural demand and drive GDP. Wage inflation, while hurting corporates could also continue to drive the consumer story.

Infrastructure on the other hand faces a strange dichotomy. One, with the curtains coming down on the Eleventh Five-Year Plan by FY-12, accelerated spending in the case of delayed projects would entail higher government expenditure. However, the estimated sharp dip in government expenditure would imply cutbacks in spending. It may be logical to assume that infrastructure spending would be left undisturbed, while the Government's other capex spending as well as social spending could see a dip.

The other segment that has been driving growth and can be expected to do so in future is the services sector. Growth in the trade, hotels, transport and communication would be closer to their FY-07 highs if the current estimates pan out well. Finance, insurance, real estate and business services segment, too, has moved into double digit growth figures.

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