India is doing better than expected - provisional estimates of IIP
growth for July outperformed the most optimistic forecast by around 5
percentage points. Does this mean that the expected downtrend in manufacturing
growth has been negated? Not really. The HSBC Markit Purchasing Managers Index
for September continues to show a cooling of manufacturing activity compared to
earlier this year. We therefore still see the IIP trending down over the year,
the question to answer, of course, is to what level of growth will IIP settle
The high growth of 13.8% in July stems in large part from the never
before seen growth of 63% in the capital goods sector. There is also the 22.1%
growth in consumer durables, and vehicle production and sales continue to
record highs even in September. India has actually become the seventh largest
vehicle producing nation in the world in 2010, six years ahead of its target.
Despite criticism of the volatility in IIP numbers, issues of accounting,
obsolescence in the index etc. there is plenty of evidence from other sources
that points to the high level of investment activity in the country this year.
CMIE data show that 2010-11 will record the highest level of new projects
commissioned, while government data on investment projects under implementation
reveals a high implementation ratio of proposed projects.
Clearly, the constraints of capacity being felt by industry are
being acutely felt and acted upon. Depending on how this investment pans out
over the year, IIP growth in March 2011 could be anywhere between 8-11%. This
is however a large range, large enough to complicate policy moves by the RBI.
With growth estimates all in the range of 8-9% for this year, monetary policy
has to answer questions like is the economy really over-heating, will capacity
be added soon enough to relieve the pressure on supply and so on. Even if IIP
numbers do not help answer such questions clearly, one fact that does stand out
is that we can expect the RBI to continue the rate hike, albeit at a slow pace
over the next two quarters.
Unfortunately, for the RBI, there is little support from the
government when it comes to tackling the bugbear of inflation. It is true that
the new series of WPI released last month gives slightly lower numbers for
inflation and that both CPI IW and WPI are trending down to touch 9% and 5%
levels by March. Yet, it is also true that the high inflation levels so far are
now being transmitted through the system. We can blame the drought and then the
flood for higher food prices, but there is little being said and done about
removing the structural constraints imposed by public procurement and
distribution systems that will restrain inflation to lower levels. The
government of course keeps itself and its own insulated from this with DA and
EPF rate hikes.
Meanwhile, as funds pour in from abroad, the stock market has been
in euphoric mode and the rupee has been rising. This up trend has to level off
in the months ahead as FII flows cannot be expected to continue unabated at the
same rate. As usual, though this reduction is anticipated, when it comes to
FIIs and the stock market, it is difficult to say when this will happen. As
emerging economies around the world are putting in measures to subdue the large
capital inflows, it remains to be seen how India will tackle the inflow.
All in all, though the floods will take a toll on food prices, we
have had a good monsoon, though industrial output is trending down, growth is
better than expected and though rate hikes will continue, the raises will be
moderate. The prospects for the economy actually look brighter than they did a
couple of months back.
P.S. With this edition, we begin the sixth year for this
newsletter, we thank our readers for all their brickbats and bouquets over the
years. Do continue with your feedback, thanks.