- Weakening of the favourable base effect – the statistical bump-up on account of the low pandemic-impacted GDP number of the comparable period last year.
- Worsening of the trade deficit.
- Erosion of corporate profitability due to inflation. Presumably, this was offset by continued stellar performance from the farm sector and high growth in the services sector (9.3%), even as any hope of production to meet festive-induced demand of September-October 2022 was belied.
- Manufacturing contracting an unexpected 4.3%. The last time manufacturing contracted – barring the 0.2% contraction in Q4 of the last fiscal – was in Q1 2020-21, during the peak of the pandemic when it contracted 31.5%.
Clearly, there is something deeply amiss with the manufacturing sector, a point brought home independently by the core sector growth number for October 2022 released just prior to GDP numbers. At 0.1%, core sector (essentially, infrastructure sectors like steel and cement) growth is the lowest since January 2022.
So, even though the overall growth number is in line with RBI’s forecast of 6.3% for Q2, all is far from well when it comes to the quality of the recovery, notably its sectoral composition. This is particularly worrisome since H2 2022-23 is likely to see a sharp deceleration in growth due to the ongoing global economic slowdown. With most of the West barring the US heading into recession, demand for Indian exports is bound to be impacted adversely, even as high inflation cramps domestic demand and, in turn, overall growth.
For now, the hope is that we will end the year with growth at 7%, as estimated by RBI in its September policy statement. Note, multilateral organisations like International Monetary Fund (IMF) and World Bank have lowered their estimates to 6.8% and 6.5%, respectively, citing spillovers from the war in Ukraine and global monetary tightening, both of which will, inevitably, impact investment, thanks to increased uncertainty and higher financing costs.
The good news is that gross fixed capital formation (GFCF), a proxy for investment, has held up well. At 34.6% of GDP (in constant prices), it is only a bit lower than in Q1 (34.7%), suggesting the recovery will continue apace.
Much depends on how the RBI’s Monetary Policy Committee (MPC) reads these numbers when it meets next week. Equally importantly, how GoI reads them. Remember, these will be the most recent and most detailed estimates available to government (other than the first advance estimates to be released on January 7, 2023, based on limited data) while framing the budget.
Will the MPC read it as a recovery strong enough to justify a return to its ongoing battle against inflation, hence warranting continued tightening and at the same pace (50 basis points, or bps) as in the past three meetings? Or, read it as a signal that the economy – more correctly, some sections of the economy – need support and, hence, temper the rate hike to, say, 40 bps?
The latest inflation numbers may give RBI some breathing space in its fight to contain inflation. Retail inflation based on consumer price index (CPI) moderated to 6.77% in October, compared to 7.41% in September, while inflation based on the wholesale price index (WPI) declined to 8.4% in October, snapping an 18- month-long double-digit inflationary spell.
However, as with GDP estimates, it is too early to pop the champagne. Inflation is notoriously difficult to rein in once it has gone out of hand, as it has in the Indian context. Which is why central banks across the world are not letting up on the fight against inflation but are continuing to raise interest rates, despite clear evidence that higher interest rates are hurting growth and, possibly, resulting in recession.
In the same vein, will GoI see the latest numbers as warranting further support from the fisc (read: temper the pace of fiscal consolidation, by allowing a gentler pace of reduction of the fiscal deficit in the forthcoming budget)? Or will it see it as suggesting that recovery has taken root – retail loan growth surged 20% in September, the fastest since the pandemic outbreak in 2020, unfazed by higher borrowing costs, signalling a robust revival in consumer demand – and stick to its earlier plan of returning to the fiscal roadmap under the much-amended and oft-breached Fiscal Responsibility and Budget Management (FRBM) Act?
A November 2022 blog (bit.ly/3udpu1u) by IMF economists Tobias Adrian and Vitor Gaspar argues that where inflation is high and persistent, across-the-board fiscal support is not called-for. A smaller deficit cools aggregate demand and inflation. So, the central bank doesn’t need to raise rates as much. While monetary policy has the tools to subdue inflation, fiscal policy can put the economy on a sounder long-term footing through investment in infrastructure and provision of basic public services.
‘The policy mix matters,’ says the duo. ‘Fiscal restraint will reduce the cost of bringing inflation back to target in a timely way, compared with the alternative of leaving monetary policy alone to act.’
Here’s hoping both RBI and GoI read the numbers right, and don’t get lost in translation.
