India Economy - December 2011

Source: OPEC 1/12/2012, Location: Asia

India’s GDP growth has dropped below 7%. India’s economy grew at the slowest rate for more than two years in the second quarter, confirming the shift of Asia’s thirdlargest economy to lower growth rates of about 7%, after a failed push to reach double-digit growth. Chandrajit Banerjee, Director General of the Confederation of Indian Industry (CII), has attributed this decline in economic growth to a pullback in investments and high borrowing costs that threaten to curb India’s fast-growing economy further in the coming months. Data released on 7 December 2011 showed economic growth for the quarter to the end of September slowed to an annualized 6.9%, weighed on by almost two years of progressive monetary tightening, a retreat of foreign capital and a weakening local currency. In addition, the administration has been unable to tame inflation raging at near double-digit levels, nor shown a readiness to rein in public spending.

The last time India’s GDP growth fell below 7% was in the quarter to June 2009, when it was struck by the effects of the global financial crisis in western economies. The drop in the latest quarter – from the 7.7% recorded in the three months to the end of June - puts the government’s official target for economic growth in fiscal 2012 of 8.5% out of reach, according to many economists. Our estimates imply that the Indian economy will expand by 7.6% and 7.5% in 2011 and 2012 respectively. Some observers have pointed out that a good part of India’s difficulties stem from the period when efforts were made to push growth above a sustainable rate. That was now coming back to haunt the economy. Although Shri Pranab Mukherjee, the country’s Finance Minister, has blamed the weakening domestic economy on the dismal global economic outlook, particularly the woes in the Euro-zone.

However Chandrajit Banerjee, the Director of CII, urged policymakers to look closer to home for a remedy. “the current situation of the Indian economy is induced largely by domestic issues ... the corrective actions are very much in the hands of domestic policymakers”. According to the Ministry of Statistics and Programme Implementation (MOSPI), industrial production slowed sharply in September, growing by only 1.9% y-o-y, the slowest pace in over two years. The Index of Industrial Production (IIP) had increased by 3.8% and 3.6% in July and August, respectively, on annual basis. The September industrial production figures are only the latest in a series of data suggesting a sharp fall in economic activities’ growth (EIU, Country report, December 2011). The decline has been attributed to rising fuel prices and the cost of borrowing. The industrial action of the labour unions of Maruti Suzuki, the country’s largest car manufacturer, also contributed to the decline.

The services sector contracted for a second constructive month in October, pushing the sector into a technical recession. Markit (a UK-based financial information services firm) and HSBC have suggested that weak global demand and tight monetary policy are to blame for this downtrend. In line with the services sector contraction, according to the EIU (December 2011), India's second-biggest private airline (Kingfisher) has been facing financial difficulties, citing $1.2 billion of debt, and forced to close its lowcost services. It seems that neither the government nor the financial markets have faith that private airlines will emerge from the crisis successfully. Kingfisher, of course, is not the only Indian airline that is encountering difficulties.

State-run Air India and the largest private airline in the country have been reported as losing around $1.7 billion and $200 million, respectively, in the third quarter. India's wholesale price index (WPI) has remained above 9% for nearly a year, the formal annual wholesale price inflation reaching 9.73% in October. The rate of annual fuel price inflation stood at 14.8% and food inflation was pegged at 11.1%. Although policymakers have been projecting a deceleration in inflation, a falling rupee (India's currency) and 13 consecutive increases in the interest rate have not been effective so far in taming inflationary pressures.

India’s struggling currency is set to endure its worst month since the Asian financial crisis, driven down by a mixture of slowing domestic demand and concerns over the crisis in the Euro-zone. The rupee has declined by more than 6% in the past month, reaching an all-time low in the first week of December of 52.73 rupee against the US dollar. The fall is the currency’s sharpest decline since November 1997. Since the start of August, when a mixture of concerns about the fiscal position of the US and Europe’s debt crisis prompted local traders and companies to seek safety in US dollar, the rupee has fallen by about 18%, making it one of Asia’s weakest currencies. The declines come against a backdrop of faltering output in Asia’s third-largest economy. Official data released this week showed India’s growth increasing at its slowest rate in more than two years. The falls have also exacerbated a broader decline in local equity markets. Since the start of 2011, India has been the world’s worst-performing major stock market, according to an analysis by Mumbai-based Espirito Santo Investment Bank.

The MSCI India Index, a benchmark measure of listed Indian companies, has fallen by 34% since the beginning of 2011. The bank credits just over 11% of this decline to recent rupee depreciation. The falling currency puts new pressure on India’s corporate sector, with importers especially vulnerable to increases in the costs of fuel and raw materials. Further risks come as dollar denominated debt taken on by fast-growing Indian businesses, attracted by low US interest rates, begins to mature over the next few months. The recent declines in the rupee have prompted the Reserve Bank of India to make limited moves to control the currency, following criticism that it had failed to match other emerging market central banks with stronger efforts to stabilize volatile movements. Last week, the bank intervened to buy rupees for the first time in two months.

It also increased rates on bank deposits for Indians living outside their home country and loosened rules to allow domestic companies to borrow more abroad. The worsening global economic outlook has hit currencies in other Asian emerging markets with Indonesia’s rupiah in November posting its biggest monthly decline since February 2009. The country’s central bank said on 7 December 2011 that it planned to boost intervention to support its currency. Analysts now expect the RBI, which holds more than $300 billion in foreign exchange reserves, to make further interventions.

Even if India’s central bank follows suit and introduces further protective policy changes, the rupee is unlikely to recover strongly in the near term and may even fall further in the coming months, due to weak macroeconomic performance prospects. Some expect that under the current macroeconomic headwinds and heightened risk aversion globally, the rupee will trade between 51 and 53 until the end of the year.

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