India Economy - June 2015

India's economy grew 7.5% in the 1Q15, which was above expectations. It grew 7.3% during the fiscal year ending 31 March. This means the country has outpaced China's economic expansion for two quarters out of the last three. It seems key positive aspects are low commodities – and, specifically, low oil prices – which will limit the current account deficit and lower inflation. Indeed, wholesale price inflation was negative for the sixth consecutive month in April, while CPI inflation fell to a four-month low. This will support consumers’ purchasing power and encourage spending.

When GDP components are investigated, on the demand side GDP has improved visibly in January–March, while real private consumption spending grew 7.9% y-o-y, the highest in seven quarters. Although this is in line with the notion of easing inflation and lower interest rates supporting consumer spending (the CPI averaged 5.3% y-o-y in January–March compared with 7.8% y-o-y during the same quarter last year), this robust expansion contradicts much weaker data on consumer goods output, particularly of consumer durables, which continued to contract in y-o-y terms. In the meantime, real fixed investment grew 4.1% y-o-y, recovering from 2.4% y-o-y in the 4Q14 and bringing the annual average to 4.6%. Investment goods output expanded by a respectable 9.6% y-o-y during the quarter and the imports of capital machinery grew at double digits. The new investment announcements also increased 88% y-o-y during the 1Q15. Despite the gradual improvement in demand-side GDP, the gross value added data showed a steep decline in the 1Q to 6.1% y-o-y, bringing the annual average to 7.2%. Here again, the government data showed a strong expansion in manufacturing and financial and transport services, which grew 8.4% y-o-y, 10.2% y-o-y and 14.1% y-o-y, respectively.

In terms of India’s economic reform, the ruling BJP has made some progress in implementing economic reforms, but bureaucratic hurdles and a lack of transparency mean that it has barely scratched the surface so far. There are significant challenges ahead as the government will face opposition on economic measures from a variety of sources, such as the upper house of parliament and from the trade unions.

In terms of international trade, merchandise exports shrunk for the fifth consecutive month in April to $23 billion. Imports also declined but at a slower pace of 7.6% y-o-y and almost entirely due to still shrinking foreign oil purchases. Meanwhile, imports of iron and steel, machinery, transport equipment and electronic goods all registered double-digit y-o-y growth, suggesting a pick-up in investment demand. As oil prices are almost solely responsible for the imports contraction, the weakness in exports appears to be more broad-based, indicating imports may recover sooner than exports and clouding the outlook for India's trade balance in the coming months. Worsening net exports will likely weigh on India's overall growth in the fiscal year beginning in April. This weakness, however, should be at least partially offset by the recovery in fixed investment, with strong imports of capital equipment.

The inflation rate in India was recorded at 4.87% in April of 2015. The CPI in India increased to 120.7 index points in April 2015 from 120.2 index points in March. Since the last RBI review in early April, oil prices have risen nearly 10% and the rupee has depreciated nearly 3%. However, the baseline arguably had some associated downside risks, and while the current move in oil prices and the value of the rupee are likely to offset those risks and increase inflationary pressures, by themselves they are unlikely to push inflation above the RBI’s 6% January 2016 target. Food inflation eased to 6.14% in March from 6.88%, while the core part of the CPI remained largely sticky at 4.15% versus 4.10% in February. The prices of food and beverage items eased to 6.20% from 6.76%. The actual nature of the monsoons will be clear only around mid-July.

While a good monsoon can somewhat mitigate the impact of the unseasonal summer rains on food prices, a bad one can do more damage. A much bigger worry is a strong monsoon season that could drive up food prices. But there are mitigating factors. The y-o-y deflation in WPI prices accelerated to 2.7% y-o-y in April from a 2.3% rate in March. On a sequential basis, prices dropped for the seventh time in eight months, declining by a seasonally adjusted (SA) rate of 0.5% m-o-m. The WPI has a much larger tradable component than the CPI and, therefore, has been much more responsive to the recent global commodity price fall. April was no different, with fuel prices declining by a SA rate of 1.9% m-o-m on the back of pump price cuts at the end of March. Furthermore, minerals prices declined by a SA rate of 0.8% m-o-m, reflecting soft commodity prices. However, WPI deflation does not only reflect the first-round impact of commodity prices. Falling input costs, weak domestic demand, and excess capacity in key manufacturing sectors meant that core prices also declined sequentially for the sixth straight month in April, falling by a SA rate of 0.2% m-o-m. As a consequence, y-o-y core inflation remained unchanged in negative territory at -0.4% y-o-y. India’s central bank cut its main interest rate by 0.25 basis points (bp) for the third time this year, a move that appears at odds with recent data showing the country’s economy has accelerated to become one of the fastest-growing in the world, with the repo rate now at 7.25%.

The April trade deficit moderated to $11 billion from $11.8 billion in March. This is likely to soothe the nerves of market participants who may have become nervous about the manner in which the deficit surged in March and the recent rupee movements. The India’s balance of payments remain well supported for now with a monthly trade deficit of $11-12 billion, which is consistent with an annual current account deficit of about 1.2% of GDP. It seems, however, that this is not large enough to increase financial market vulnerability to shifts in risk appetite or global interest rates.

Industrial production in March showed a surprise sharp drop, exacerbating mounting downside risks to 1Q growth. Industrial production fell by a SA rate of 1.1% m-o-m after a modest 0.1% downward revision to February’s number of 4.9% y-o-y. As a consequence, industrial production slowed to 2.1% y-o-y in March. The industrial production slowdown may be the straw that breaks the camel’s back on 1Q GDP growth. Since the release of the government’s 7.5% y-o-y advance estimate of 1Q GDP growth, significant downside risks have arisen, both from weather shocks that have likely depressed agricultural production and from weaker-than-expected government spending growth as authorities have scrambled to meet last year’s fiscal deficit target.

Indian manufacturing PMI was up to a four-month high of 52.6 in May from 51.3 in April. This signalled a further improvement in business conditions. Furthermore, gains were seen in all three monitored sub-sectors. Manufacturing output increased for the nineteenth month running, with a marked rate of growth, which was the fastest since January. The sharpest rise was reported by consumer goods producers. The expectation for GDP growth rate in 2015 is 7.5%, similar to the previous month’s outlook for 2015.