Redistributive policy

Economic recovery still needs political support

The second advance estimate (2AE) of GDP, released on Monday, forecast real growth for FY22 of 8.9%, compared to 9.2% in the first advance estimate released in January. However, the momentum of the recovery and of activity is best judged by quarterly growth (since this is of more immediate importance).

Real gross value added (GVA) growth in the October-December quarter of FY22 was 4.7% (compared to 2.1% in the corresponding quarter of FY21). GDP growth was a little better at 5.4%. This growth was only marginally higher than the average growth of 3.7% in the four quarters of FY20, prior to the pandemic-related lockdown. What does this say about the momentum of economic recovery? Given the high volatility in quarterly growth rates over the past two years, these need to be examined carefully to separate the base effect from the underlying growth.

The two sectors that contributed the most to overall growth were manufacturing (0.2%) and construction (-2.8%). Even taking into account the base effects of fairly high growth rates in the corresponding quarter of FY21, the weakness is visible. The near-zero growth in the manufacturing sector is somewhat surprising, given the 27% growth in merchandise exports (in US dollars) during the quarter, indicating weak domestic demand (although some segments are doing well). good). Note that the growth in the IIP (industrial production index) during the quarter was 1.2% and the equivalent of the GVA derived from the financial results of manufacturing companies (deflated by WPI inflation) increased was contracted by 3%. Equally concerning is the construction segment, where a similar match in numbers suggests significant weakness, particularly in the MSME segment. This is partly explained by the weak growth in electricity production (3.7%).

On the other hand, some service segments recorded relatively strong growth. The most striking is “Public administration and other services”, which includes education, health, recreation, etc. and is the universe of micro and small local service enterprises; this segment grew by nearly 17% (and contributed just under half of the overall 4.7% growth in GVA).

Even on the demand side of economic activity, the trends are concerning. While private consumption grew by a healthy 7%, investment in fixed assets only increased by 2% in the third quarter (after a contraction of 0.6% in the third quarter of FY21). This is despite a 13% increase in Center capital spending in the third quarter (and smaller state capital spending). The obvious conclusion is that private sector investment spending has remained weak. Moreover, given that government consumer spending grew by only 3.4%, which matches the growth of “public administration” above, suggests that other service businesses have recovered strongly. in the third quarter, with the opening of economic activity.

In nominal terms, GVA and GDP growth in the third quarter had been 15.6%. This is important because it is a signal of the distribution of consumption between household income classes. For the full FY22, nominal GVA is expected to be Rs 236 lakh crore, up from Rs 201 lakh crore in the pre-pandemic FY20, an increase of Rs 35 lakh crore over two years. It’s quite substantial. In addition to private sector studies and surveys of rising inequality, exploration of corporate financial results shows that operating profit margins for the business-to-business (B2B) subset have increased more than those for the business-to-business (B2B) subset ( B2C), suggesting that the ability of end-consumers faced with businesses to pass on high input costs has been limited. This has implications for the redistributive actions of economic policy, particularly fiscal.

What about the future? Regarding growth in the fourth quarter of FY22, the Axis Bank Composite Leading Index, based on a set of 39 simultaneous and immediate indicators, suggests that economic activity in February has almost reached December levels (and that March activity is generally seasonally strong). Yet the path to growth and recovery for FY23 has become muddied by a host of economic, business, financial, and now geoeconomic events. The release of official data implies GDP growth in the fourth quarter of FY22 is expected to be slower (4.8%) and GVA at just 4.1%; FY22 total growth is likely to be even lower than the 8.9% currently forecast, given a likely impact on exports in March. Additionally, RBI, with its sophisticated forecasting capabilities, expects FY23 growth to be 7.8% (lower than the 8.0-8.5% predicted by the Economic Survey and 9.0% by the IMF).

Even assuming the Ukraine crisis subsides gradually, other ongoing political actions around the world are likely to unfold over a period of months or even years. India’s external environment is expected to be less benign than in FY22, and financial markets are expected to remain volatile. As the world emerges from the pandemic and extraordinary stimulus package, many G-10 central banks, struggling with persistently high inflation, are reversing their accommodative monetary policy. The US Federal Reserve is expected to tighten monetary policy aggressively, raise key rates at its March 2022 meeting, and then begin to extract the huge infusion of liquidity during the pandemic period.

Global growth is also slowing. The IMF, in its January update of the World Economic Outlook, had projected that global GDP growth would slow from 5.9% in 2021 to 4.4% in 2022. The slowdown in the Chinese economy is expected to contribute to this slowdown, but the major developed markets are also decelerating. As logistical bottlenecks for global trade ease, the nature of demand is also likely to shift from consumer goods to travel, tourism, leisure, and more. , mainly driven by a decline in emerging markets. Merchandise exports are unlikely to be as strong a driver of growth in FY23, although services exports are expected to pick up.

Domestic headwinds from inflation risks and fiscal constraints will require skillful management of further stimulus to ensure that, even as the recovery becomes broad-based and more durable, the economy does not overheat. The role of credit and financial resources for businesses and retail borrowers has become crucial, especially for MSMEs. Bank lending resumed in November and December, but until mid-February remained fairly robust. The same goes for NBFC levies, at least for the larger ones. This is partly a diversion from corporate bonds and commercial paper, given the rise in interest rates, but demand for basic credit (working capital and investment loans) seems to have improved.

In short, overall economic activity is recovering at a modest pace, but many sectors and segments still appear to be constrained by weak demand and will require continued policy support. The role of fiscal and trade policy will be dominant, but monetary policy will continue to play a crucial role in maintaining stable financial markets to reduce at least one component of uncertainty.

This column first appeared in the print edition of March 2, 2022 under the title “Support the recovery”. The author is Executive Vice President and Chief Economist, Axis Bank. Views are personal