Thursday, February 2, 2017

The Global Economy: A Rough Ride into 2017

Year 2016 ended on a rather low note for the global economy with low output and employment growth, stagnant global trade, subdued investment, and heightened policy uncertainty marking another difficult year. Global growth in 2016 is estimated at a post-crisis low of 2.3 per cent by the World Bank, while the IMF estimate is at a slightly higher 3.1 per cent (See: or World trade growth for 2016 is estimated by World Bank to have fallen from 2.8 per cent in 2015 to 2.5 per cent, while the IMF estimate for 2016 is at an even lower 1.9 per cent. In the second half of the year growth did rebound in the US after a weak first half of 2016. Output remains below potential in a number of other advanced economies, notably in the Euro area, though growth figures were somewhat stronger than previously forecast in some economies, such as Spain and the UK, where domestic demand held up better than expected in the aftermath of the Brexit vote. The growth rate in China was slightly stronger than expected, supported by continued policy stimulus, though deep concerns remain over imbalances caused by the country’s reliance on credit and its high savings rate. But activity was weaker than expected in some Latin American countries currently in recession, such as Argentina and Brazil, as well as in Turkey, which faced a sharp contraction in tourism revenues. Activity in Russia was slightly better than expected, in part reflecting firmer oil prices.
While slowing investment growth is partly a correction from high pre-crisis growth rates in some EMDEs, it also reflects a range of obstacles holding back investment, including terms-of-trade shocks for oil exporters, slowing foreign direct investment inflows, as well as private debt burdens and political risks. Commodity prices have stabilized and are projected to increase moderately during 2017-19, providing support for commodity-exporting EMDEs. The rise in US yields since early November has led to a notable tightening of financing conditions for EMDEs, in some cases resulting in significant currency depreciation and portfolio outflows. High corporate debt, declining profitability, weak bank balance sheets, and thin policy buffers in several economies add to concerns. Fiscal stimulus, if implemented in key economies, could result in stronger growth. Monetary policy has so far remained mostly accommodative across the globe; however fiscal space remains inadequate in several economies, both advanced and emerging, because of already high public debts.
Risks to the global growth outlook are assessed to be skewed to the downside. A projected stabilization in energy and commodity prices may provide a small tailwind for resource rich economies in 2017, but the medium-term trend continues to be dominated by weak investment growth. Adding to the inertia is a wait-and-watch attitude among corporates and governments. Going into 2017, businesses have to prepare for more disruptions from geopolitical tensions, policy uncertainty, and financial market volatility. Lingering uncertainty about the course of US economic policy could have a significantly negative effect on global growth prospects as the new US government’s policies take shape. Accelerating inflation and a soaring US dollar are among the risks to the economic balance. Even more alarming is the fact that recent political developments highlight a fraying consensus about the benefits of cross-border economic integration. Major policy shifts along these lines are seen to lead to potential widening of global imbalances coupled with sharp exchange rate movements and in response could further intensify protectionist pressures. Increased restrictions on global trade and migration would hurt productivity and incomes, and take a toll on market sentiment as well, leading to a vicious circle of growth debilitating outcomes.

Sunday, January 22, 2017

RBI’s fifth bi-monthly monetary policy statement, 2016-17

Policy Measures
  • Repo rate unchanged at 6.25%, consequently, the Reverse repo rate remains at 5.75% and the MSF rate at 6.75%. All the six members of the RBI panel voted in favour of status quo in policy.
  • Cash reserve ratio or CRR unchanged at 4%. RBI withdraws the temporary 100% hike in the CRR in the fortnight beginning 10 December.
  • Foreign exchange reserve rose to all-time high of $364 billion on December 2.
  • RBI injected  liquidity worth Rs. 1 trillion through OMO purchases this fiscal.
Global growth picked up modestly in the second half of 2016, after weakening in the first half. Activity in AEs improved, led by a rebound in the US. In the EMEs, growth has moderated, but policy stimulus in China and some easing of stress in the larger commodity exporters shored up momentum. World trade is beginning to emerge out of a trough that bottomed out in July-August and shows signs of stabilising. Inflation has ticked up in some AEs, though well below target, and is easing in several EMEs. Expectations of reflationary fiscal policies in the US, Japan and China, and the waning of downward pressures on EMEs in recession are tempered by still-prevalent political risks in the euro area and the UK, emerging geo-political risks and the spectre of financial market volatility.
International financial markets were strongly impacted by the result of the US presidential election and incoming data that raised the probability of the Federal Reserve tightening monetary policy. As bouts of volatility fuelled a risk-off surge into US equities and out of fixed income markets, a risk-on stampede pulled out capital flows from EMEs, plunging their currencies and equity markets to recent lows even as bond yields hardened in tandem with US yields. The surge of the US dollar from late October intensified after the election results and triggered sizable depreciations in currencies around the world. Commodity prices firmed up across the board from mid-November on an improvement in the outlook for demand following the US election results, barring gold which lost its safe haven glitter to the ascendant US dollar. Crude prices have firmed after the OPEC’s decision to cut output.
GVA in Q2 of 2016-17 turned out to be lower than projected on account of a deeper than expected slowdown in industrial activity. Manufacturing slowed down both sequentially and on an annual basis, with weak demand conditions and the firming up of input costs dragging down the profitability of corporations. Gross fixed capital formation contracted for the third consecutive quarter. Although government final consumption expenditure slowed sequentially, it supported private final consumption expenditure, the mainstay of aggregate demand. The contribution of net exports to aggregate demand remained positive, but on account of a sharper contraction in imports relative to exports. CPI eased more than expected for the third consecutive month in October, driven down by a sharper than anticipated deflation in the prices of vegetables. Underlying this softer reading, however, was an upturn in momentum as prices rose month-on-month across the board.
Liquidity conditions have undergone large shifts in Q3 so far. Surplus conditions in October and early November were overwhelmed by the impact of the withdrawal of notes from November 9. Currency in circulation plunged by ₹7.4 trillion up to December 2; consequently, net of replacements, deposits surged into the banking system, leading to a massive increase in its excess reserves. The RBI scaled up its liquidity operations through variable rate reverse repo auctions of a wide range of tenors from overnight to 91 days, absorbing liquidity (net) of ₹5.2 trillion. From the fortnight beginning November 26, an incremental CRR of 100 per cent was applied on the increase in net demand and time liabilities (NDTL) between September 16, 2016 and November 11, 2016 as a temporary measure to drain excess liquidity from the system. Liquidity management was bolstered by an increase in the limit on securities under the market stabilisation scheme (MSS) from ₹0.3 trillion to ₹6 trillion on November 29. 
Growth forecast cut to 7.1%, from 7.6% for this fiscal. Downside risks in the near term could travel through two major channels: (a) short-run disruptions in economic activity in cash-intensive sectors such as retail trade, hotels & restaurants and transportation, and in the unorganised sector; (b) aggregate demand compression associated with adverse wealth effects.
Inflation target remains 5% for March 2017. Demonetisation to lower prices of perishables, could reduce inflation by 10-15 basis points by December; however, crude price volatility, surge in financial market turbulence could put March-end inflation target at risk.
The decision of the MPC is consistent with an accommodative stance of monetary policy in consonance with the objective of achieving consumer price index (CPI) inflation at 5 per cent by Q4 of 2016-17 and the medium-term target of 4 per cent within a band of +/- 2 per cent, while supporting growth. The RBI’s cautious approach comes amidst a volatile global environment, which saw the rupee sink to a record low last month as part of a sell-off in emerging market assets. Pressure on the RBI to act has grown since November 8 when a drastic plan to abolish Rs 500 and Rs 1,000 notes was put in place, removing 86 percent of the currency in circulation in a bid to crack down on black money.

Tuesday, August 23, 2016

Highlights of RBI’s Third Bi-monthly Monetary Policy Statement, 2016-17

Policy Measures
* Repo rate unchanged at 6.50 per cent, Reverse Repo at 6%, Bank rate and MSF rate at 7%
* Cash reserve ratio or CRR unchanged at 4%
*Continue to provide liquidity as required but progressively lower the average ex ante liquidity deficit in the system from one per cent of NDTL to a position closer to neutrality

Since the second bi-monthly statement of June 2016, several developments have clouded the outlook for the global economy. Q2 growth has been slower than anticipated across AEs, with the Brexit vote increasing uncertainty. Among EMEs, activity remains varied. GDP growth stabilised in China in Q2. Recessionary conditions are gradually diminishing in Brazil and Russia, but the near-term outlook is still fragile. In India, monsoon related developments engender greater confidence about the near-term outlook for value added in agriculture. Barring the contraction in natural gas and crude oil on account of structural bottlenecks, the core sector has been resilient as of 2016-17 so far, and should support industrial activity going forward. There are some signs of green shoots in manufacturing too, with PMIs and the Reserve Bank’s industrial outlook survey indicating a pick-up in new orders, both domestic and external. High frequency indicators of service sector activity are still, however, emitting mixed signals, although a larger number of indicators are in acceleration mode in Q1 of 2016-17. Merchandise export growth moved into positive territory in June after eighteen months, with a reasonably widespread upturn. While lower crude oil prices continued to compress the POL import bill, non-oil non-gold imports continued to shrink. Successive downgrades of global growth projections by multilateral agencies and the continuing sluggishness in world trade points to further slackening of external demand going forward. The recent sharper-than-anticipated increase in food prices has pushed up the projected trajectory of inflation. CPI inflation rose to a 22-month high in June, with a sharp pick-up in momentum overwhelming favourable base effects. The rise was mainly driven by food, with vegetable and sugar inflation higher than the usual.

International financial markets did not anticipate the Brexit vote and equities plunged worldwide, currency volatility increased and investors herded into safe havens. Since then, however, equity markets have regained lost ground. Currencies, barring the pound sterling, have stabilized. While the pace of FDI inflows to India slowed in the first two months of 2016-17, net portfolio flows were stronger after the Brexit vote, notwithstanding considerable volatility characterising these flows. The level of foreign exchange reserves rose to US$365.7 billion by August 5, 2016.

Liquidity conditions eased significantly during June and July on the back of increased spending by the Government which more than offset the reduction in market liquidity because of higher-than-usual currency demand. The injection of durable liquidity through purchases under OMOs, amounting to Rs. 805 billion so far, also helped in easing liquidity conditions, bringing the system-level ex ante liquidity deficit to close to neutrality (without seasonal adjustment). Accordingly, the average daily liquidity operation switched from net injection of liquidity of Rs. 370 billion in June to net absorption of Rs. 141 billion in July and Rs. 405 billion in August (up to August 8). The Reserve Bank conducted variable rate repos and reverse repos of varying tenors in order to manage evolving liquidity conditions, with a more active use of reverse repos to manage the surplus liquidity. Reflecting the easy liquidity conditions, the weighted average call rate (WACR) and money market weighted average rate remained on average 15 basis points below the policy repo rate since June.

Policy Stance and Rationale

  • A normal monsoon and the 7th Pay Commission award likely to boost growth
  • Implementation of GST should raise returns to investment and thus business
    sentiment and eventually investment
  • Impact of direct effect of house rent allowances under the 7th CPC’s award need to be watched
  • Growth forecast retained at 7.6% for the current fiscal
  • Inflation target kept unchanged at 5% by March 2017 with upward bias
  • Easy liquidity conditions are already prompting banks to modestly transmit past policy rate cuts through their MCLRs
  • Monetary policy to remain accommodative and will continue to emphasise the adequate provision of liquidity
The refinements to the liquidity management framework effected in April 2016 were intended to smooth the supply of durable liquidity over the year using asset purchases and sales as needed, and progressively lower the average ex ante liquidity deficit in the system to a position closer to neutrality. The Reserve Bank intends to continue with this strategy, with the intention of closing the underlying liquidity deficit over time so that the system moves to a position of structural balance. 

Wednesday, April 27, 2016

The Global Economy in the New Year: A Round Up

At the start the of the new year, the global economic and financial market conditions deteriorated drastically, and were dominated by a series of events such as a renewed fall in oil prices, fresh turmoil in China’s financial market, a looming European banking crisis, and policy variations by some of the world’s key monetary authorities. Some of these events, which could have boosted sentiments significantly, actually failed to do so. Cheaper energy and commodity prices, which enhance consumers’ disposable income and lower companies’ input costs, are hurting energy companies’ profits and now seen as a threat to lender banks.1 The International Monetary Fund (IMF) notes that though a decline in oil prices driven by higher oil supply should have supported global demand given a higher propensity to spend in oil importers relative to oil exporters, several factors have dampened the positive impact of lower oil prices.2 Given the lack of structured fiscal consolidation policies that are consistent with growth, private investment and consumption have stagnated in many parts of the globe. Risk perceptions have also changed with the gloomy growth prospects. The US Federal Reserve (Fed) decided to raise its key policy rate in mid-December, in what was considered to be a watershed moment for the global economic revival. However, the consequent intensification of capital flow reversal and rise in the US dollar is deepening problems of several emerging market economies (EMEs) that were already slowing at this juncture. On the other hand, the monetary authorities in Europe and recently in Japan have taken recourse to negative interest rates to avoid deflation. While the lack of monetary policy action at this juncture could further slow domestic demand, lower interest rates have begun to hurt global financial market sentiments. Banks in Europe are under pressure to clean up their balance sheets ridden with non-performing loans since the 2007-08 crisis, and policy induced negative interest rates are hurting banks’ profitability and asset quality, as demand has failed to pick up commensurately. Financial instability risks have again come to the fore with banking sector and emerging market vulnerabilities rising, and have led to sudden strong market reactions as seen by the declines in equity and bond prices worldwide at the start of 2016.

The global economic outlook has been made worse by productivity slowdown, policy gridlock, a widening geopolitical rift and increasing leverage in EMEs with tighter liquidity conditions. Downside risks have intensified again amid heightened uncertainty about EME growth prospects, further fallouts of China’s rebalancing, volatility in financial and commodity markets, and a rise in geopolitical tensions. Projections for global growth have been revised even lower in 2016.3 The severe financial market turbulence in the first six weeks of 2016, intensified by the fears about a sharper and prolonged slowdown in the world economy, has led to calls for changes in the policy environment from different quarters. Moody's Investors Service has warned that investors may start to price in the possibility of lower economic growth and returns, which could become partly self-fulfilling via negative wealth effects and tighter financing conditions. The impact on the global economy would be amplified if losses on trading portfolios and financial assets more generally led banks to tighten credit standards. The OECD points out that sole reliance on monetary policy has proven insufficient to boost demand and produce satisfactory growth, while fiscal policy is contractionary in several major economies and structural reform momentum has slowed. An increasing number of economic analysts are now calling for a stronger fiscal policy response, as a commitment to raising public investment would boost demand and help support future growth. The OECD has noted that with governments in many countries currently able to borrow for long periods at very low interest rates, there is room for fiscal expansion to strengthen demand in a manner consistent with fiscal sustainability.

The price of oil, which was trending lower in the last few months of 2015, dropped below US$30 a barrel in January; the markets are oversupplied at a time when demand is faltering because of the slowdown in key importers such as China, as well as exploration of alternate energy sources in some countries.
Fiscal strain in many oil exporters has reduced their ability to smooth the shock, leading to a sizable reduction in their domestic demand. The oil price decline has had a notable impact on investment and employment in oil and gas extraction, also subtracting from global aggregate demand. Finally, the pickup in consumption in oil importers has so far been somewhat weaker than evidenced from past episodes of oil price declines. The impact of the fall in commodity prices has not only hit oil producers in emerging economies but also US shale producers, with firms borrowing heavily from both banks and markets against oil reserves and projected revenue.
The IMF in January had already lowered its earlier projections for 2016, for global and US growth by 0.2 per cent to 3.4 and 2.6 per cent, respectively, for emerging Asia by 0.1 per cent to 6.3 per cent, and for Latin America by 1.1 per cent to -0.3 per cent as Brazil’s outlook was lowered by a sharp 2.5 per cent to -3.5 per cent. The IMF forecasts the Russian economy will shrink 1 per cent this year, after contracting 3.7 per cent in 2015. The Organisation for Economic Co-operation and Development (OECD) has in February lowered forecasts for 2016 global growth further, as well as for individual economies, with the largest impacts expected in the US, the euro area and major economies reliant on commodity exports, like Brazil. Growth in the US is expected to decelerate to 2 per cent in 2016 from 2.5 per cent last year, with the dollar’s strength weighing on exports and manufacturing activity and lower oil prices curtailing investment in mining and related industries. The euro area is projected to grow at 1.4 per cent, with German growth at 1.3 per cent, both lower than 1.5 per cent in 2015. While China is expected to continue to grow at 6.5 per cent, India is expected record a robust grow of 7.4 per cent. Brazil’s economy, which is experiencing a deep recession, is expected to shrink by 4 per cent this year.

Union Budget 2016-17: Striking the Right Chords

The government’s Union Budget for the fiscal 2016-17 has a number of announcements, which could, if implemented effectively, augment the real and financial sectors of the economy. Stability has been maintained in tax rates and structures, with some benefits to smaller individual and corporate tax payers, and an orientation towards domestic manufacturing, as well as rationalisation and simplification. The budget with a much needed emphasis on the agricultural and social sectors is a step forward in addressing some of the supply-side issues in agriculture and in skilled manpower,1 at the same time this would also help in demand generation from the rural sector and weaker sections of the economy. A consolidated set of proposals for the housing sector should help the sector clear some inventory and augment demand for downstream sectors. The infrastructure sector not only has a high allocation but also high priority accorded to public-private partnerships, including introduction of a bill for dispute resolution, renegotiation of concession agreements, and a new credit rating system which gives emphasis to various in-built credit enhancement structures aimed at alleviating problems of mispriced loans. Financial sector reforms proposed earlier have been taken forward in the budget and are mostly aimed at broadening the product and investor base, as well as providing transparency, dispute resolution and exit routes. The scope of foreign investment has been further broadened,2 while retail participation in government securities market, deepening of the corporate debt market and introducing more products in the commodity derivatives market has been envisaged. A specialised resolution mechanism to deal with bankruptcy situations in banks, insurance companies and financial sector entities has been proposed. Various steps announced for stressed assets and strengthening asset reconstruction companies (ARCs), which includes permissions for 100 per cent FDI and sponsor ownership on ARCs, would also help to unclog investment bottlenecks. The fiscal deficit target is being adhered to; this lends credibility to country’s fiscal consolidation efforts and improves the prospects for better sovereign ratings. This would help capital flows and the depreciating currency, and also allow for more expansionary monetary policy to counter sluggishness in private sector demand. [More...] [For a Summary of Measures see Sample issue of EUpDates below...]

This includes proposals for irrigation, electrification, e-marketing of produce along with amendments to the Agricultural Produce Market Committee (APMC) Acts, agricultural credit and interest subvention, crop insurance, increased warehousing facilities amongst others. There are also measures for affordable healthcare and health insurance, skill, education and entrepreneurship development and job creation.
FDI to be allowed in insurance and pension sectors up to 49 per cent under the automatic route, 100 per cent in ARCs under the automatic route and 100 per cent through the FIPB route in marketing of food products produced and manufactured in India. FPIs are allowed to invest up to 100 per cent of each tranche in securities receipts issued by ARCs subject to sectoral caps. Investment limit for foreign entities on Indian stock exchanges is to be enhanced from 5 to 15 per cent on par with domestic institutions. Limit for investment by FPIs in central public sector enterprises (other than banks) listed in stock exchanges to be increased to 49 per cent from 24 per cent. Basket of eligible FDI instruments is to be expanded to include hybrid instruments subject to certain conditions.

Saturday, March 16, 2013

A Responsible Budget within a Restricted Space albeit some Worries on the Expenditure-Revenue Math

The Indian Union Budget for fiscal year 2013-14 has been termed as a responsible budget under difficult circumstances, but a disappointment to those who were expecting extraordinary measures to jump-start the economy. Fiscal deficit in the current financial year has been contained to 5.2 per cent of GDP; this averts any immediate crisis in terms of a sovereign rating downgrade, but has led to a decade low quarterly GDP of 4.5% in the final quarter of 2012, with plan expenditure meant for developmental projects slashed by over rupees 90 thousand crore. With very little room for fiscal stimulus, the Budget has concentrated on infrastructure development and inclusive growth, the most demanding issues at present. Pressing issues like stimulating domestic savings and channeling those to the capital market have also been addressed within the Budget. Some tax responsibility has also been shifted to those who are better equipped to pay.

The Budget included several measures to spur investment both in markets and by corporations, including an incentive on investments in plant and machinery exceeding Rs.100 crore and extending tax breaks for small companies that grow larger, and an expansion of tax-free bonds for infrastructure and broadening of the scope of the newly introduced RGESS. Emphasis was given to foreign investment, with investor registration norms also being simplified.

However, while there is no opacity in the figures, all agree that the revenue projections are overstated in some areas; slippages are expected in tax revenues and the disinvestment target that hinges on stock market sentiment. Non-plan expenditure could also overshoot the target on account of subsidies and any disruption in oil prices.

Following are some highlights of the Budget:

The Budget estimates *Fiscal deficit at 5.2% of GDP in current FY and at 4.8% of GDP in 2013-14 *Net market borrowing at 4.84 trillion rupees in 2013-14 *Major subsidies bill at Rs.2.48 trillion (up from Rs.1.82 trillion) *Petroleum subsidy at Rs.650 billion 2013-14 as against revised Rs.968.8 billion for 2012-13 *Food subsidies at Rs.900 billion against revised Rs.850 billion in 2012-13 *Total budget expenditure at Rs.16.65 trillion, with Plan expenditure pegged at Rs.5.55 trillion *Direct tax proposals to yield Rs.133 billion, indirect tax proposal Rs.47 billion.

The Budget allocates *Rs.2.03 trillion, including Rs.867.4 billion capital expenditure to Defence in 2013-14 *Rs.801.9 billion to rural development *Rs.270.5 billion for agriculture *Rs.140 billion capital infusion in state-run banks in 2013-14 *Rs 100 billion for incremental cost for National Food Security Bill over and above food subsidy

The Budget proposes *No revision of personal income tax slabs; relief in first bracket through tax credit of Rs.2000 for earnings up to Rs.0.5 million to benefit 1.8 crore people *Home loans upto Rs.2.5 million to be allowed an additional deduction of Rs 1 lakh. *Surcharge of 10% on income exceeding Rs.10 million a year; only 42,800 people have declared such income *No change in basic customs duty rate of 10% and service tax rate of 12% *Surcharge of 5% to 10% on domestic companies whose taxable income exceeds Rs.100 million *Capital allowance of 15% to companies on investments of more than Rs.1 billion *STT on equity futures to be reduced to 0.01% from 0.017 % *CTT on non-agriculture futures contracts to be introduced at 0.01% * Zero customs duty for electrical plants and machinery *TDS at the rate of 1% on the value of the transfer of immovable properties where consideration exceeds Rs.5 million; agricultural land to be exempted *a 20% final withholding tax on profits distributed by unlisted companies to shareholders through buyback of shares *to raise import duty on certain luxury items (cars) and certain other items to boost domestic manufacturing *to issue inflation-indexed bonds *to move to revenue-sharing from profit-sharing policy in oil and gas sector *to allow FIIs to use investments in corporate, government bonds as collateral to meet margin requirements *to allow insurance, provident funds to trade directly in debt segments of stock exchanges *to allow FIIs to hedge forex exposure through exchange-traded derivatives *to treat foreign investors with stake of 10% or less as FIIs; any stake more than 10% will be treated as FDI *to make mutual fund equity schemes eligible for RGESS.

Get detailed highlights with our March-2013 issue of E-Updates.

Thursday, January 31, 2013

RBI takes pro-growth measures on decelerating growth as inflation expectations moderate

The RBI, which had clearly indicated an interest rate reduction at the start of 2013, took growth enhancing measures after a period of 9 months in its third quarter review of monetary policy stating that it is now critical to arrest the loss of growth momentum. The policy repo rate and the Cash Reserve Ratio (CRR) have each been reduced by 0.25 percentage points to 7.75 per cent and 4 per cent respectively; the latter will inject approximately Rs.180 billion into the banking system. These measures ease borrowing costs and are expected to prompt banks to lower their lending interest rates, a transmission process which has already been started by some banks led by SBI, India’s largest lender.  The challenge is now on banks to manage their deposit and lending rates in a manner that stimulates lending as without affecting their net interest margins.

RBI’s supportive monetary policy was constrained due to the preponderance of non-monetary factors behind the current slowdown along with risks emanating from high inflation, and the widening current account and fiscal deficits. The central bank’s step at this juncture is justified by a number of economic data, which has also prompted the central bank to lower the growth forecast to 5.5 per cent and the inflation forecast to 6.8 per cent for end-March. GDP growth in the first half (H1) of 2012-13 was 5.4 per cent compared with growth of 7.3 per cent in H1 of 2011-12. The manufacturing sector witnessed sharp moderation in growth to just 1 per cent during April- November 2012. Capital goods industries such as machinery and equipment, electrical machinery and computing machinery registered a sharp contraction in output of over 11 per cent during the same period. Industrial growth is expected to stay below its trend due to supply and infrastructure bottlenecks and slack in external demand. With investment activity remaining subdued, the prospects of a quick recovery in industrial growth appear weak. Real fixed investment too has been trending down and could lead to irreparable damage if not arrested in time. The prolonged slowdown in industrial activity is reflected in the services sector growth too. Growth in GDP at market prices decelerated sharply to 2.8 per cent in Q2 of 2012-13 from 6.9 per cent in the corresponding period of 2011-12, the lowest in the previous 13 quarters, primarily reflecting net exports and most importantly weakening private consumption demand, while government consumption is expected to moderate in coming quarters due to fiscal consolidation efforts. On the other hand, the most important factor, so far restraining any interest rate cuts by the RBI, which is headline inflation measured by the WPI index has been moderating recently. 

Even as the timing for this rate cut is right as the external environment is slightly less hostile compared to the first half of 2012, with China and some other emerging economies and the US showing strong growth, while Euro area financial markets look more robust, RBI’s guidance for its future stance on interest rate easing understandably depends on a number of factors. These include global economic risks, such as progress on the fiscal front for the US and the Euro zone and the growth fallout of fiscal austerity, as well as domestic problems such as the containment of the widening CAD and the high fiscal deficit. Future policy will therefore be conditioned by the evolving growth-inflation dynamic and the management of risks from twin deficits.

Get the detailed highlights with the February 9 issue of E-UpDates—Ecofin’s monthly statistical bulletin. 

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Monday, October 15, 2012

Indian government unveils policy basket to counter staggering growth and downgrade risks

India’s slowing growth turned from a threat to reality with India recording the worst first quarter growth in a decade, with no significant improvement in available second quarter numbers for industrial output. Growth forecasts have thus been lowered by every agency making such projections; the lowest being that by IMF at below 5% for the year 2012. Even as threats of rating downgrades were dismissed by some as of no consequence, the fact remains that our financial markets are driven by FII sentiments and many of these entities are barred from investing in junk rated countries. The Indian government has now responded with a basket of measures which not only boosts market sentiment, but if implemented could go a long way in boosting longer term capital inflows and tackling domestic issues such as supply-constraint driven inflation and the clearing of infrastructure bottlenecks.  In a string of bold initiatives to revive economic growth, the central government, first announced Rs 5 per litre increase in the regulated diesel prices and a cap on subsided cooking gas usage. It later withdrew customs and excise duties on non-subsidised LPG cylinders, a move that will help bring their prices down. The government followed up these measures with a liberalisation of foreign holding caps in the aviation, multi-brand retail, non-news broadcast media and power exchanges. Multinational retailers can invest up to 51% to open stores in states and UTs which agree to implement the decision. Minimum amount to be brought in by the foreign investor would be USD 100 million and outlets may be set up only in cities with a population of more than 10 lakh. At least 50% of FDI should be invested in 'back-end infrastructure' within three years of the first tranche. FDI in multi-brand retail, once strongly in motion, is expected to bring about significant improvements in agricultural warehousing and supply-chains.

The government also announced a plan to divest its stake in five companies. The rate of withholding tax on overseas borrowings has been reduced to 5% from 20%. The lower rate will be applicable for overseas borrowings made after July 1, 2012 and before July 1, 2015. Borrowings under a loan agreement or by way of issue of long-term infrastructure bonds that comply with External Commercial Borrowings regulations as administered by the RBI would be eligible for benefits of the concessional tax regime. The RGESS an initiative intended to support first-time equity investors not only expects to promote a ‘equity culture’ in India and discourage investments in gold, but also aims to revive the mutual fund industry, which has now been included in the scheme along with exchange traded funds.

The government set in motion a second wave of reforms, approving proposals allowing foreign investors to own up to 49% in insurance firms and pension funds. Signaling the government's intent to continue with reforms to boost economic growth and investor sentiment, the Cabinet cleared all amendments to the insurance bill. The cabinet also cleared the Pensions Bill and allowed FDI in Pension Funds. It also took the cap in the pension sector to 49 per cent following the insurance sector. The proposed changes to both the bills will now have to be cleared by both houses of the Parliament before they can come into effect. Till now, 26 per cent FDI was allowed in the insurance sector while the pensions business was closed to foreign investment. Looking to better serve the interests of all stakeholders, the government approved amendments to Companies Bill 2011, including changes related to spending on CSR activities. The proposed legislation will bring the law on the subject of corporate functioning and regulation in tune with the global best practices so that there is further improvement in corporate governance in the country through enhanced accountability and transparency. A provision has been introduced to make expenditure on Corporate Social Responsibility (CSR) mandatory. Giving a reform boost to commodity markets, the government approved the FCRA Bill that seeks to provide more powers to the regulator Forward Markets Commission (FMC) and allow a new category of products and to facilitate entry of institutional investors.

A segment within the government has been leaning towards cash transfers to poor households as the way out to deal with an unwieldy subsidy bill estimated at Rs 2.5 trillion (on three major subsidies—food, fuel and fertilizer). The government is set to step up its push for cash transfer of subsidies with two pilot projects validating the assumption that it would lead to significant savings for the government while enhancing benefits for users.

Get regular updates on Growth, Inflation and other Indian & Global Macro-Financial indicators/data with E-UpDates—A Monthly Statistical Bulletin by Ecofin-Surge.

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Monday, September 3, 2012

Challenges for India’s policymakers on the rise as India records worst 1st quarter growth in a decade and key debt and deficit indicators rise

Robust growth by construction, real estate and financial business services, which together account for 27% of the GDP, along with a 2.9% growth in agriculture took India’s Q1 2012-13 growth to 5.5%, even as the manufacturing sector slowed to a near-zero (0.2%) growth. All three critical drivers of growth, namely, private consumption, investment and exports continued to slow. The decline in the growth of fixed investment to 0.7% in Q1 of 2012-13 as against 14.7% in Q1 of 2011-12 is the major source of concern, as it indicates further deceleration in growth going forward. While the high rate of growth (10.9%) of construction is on a low base (3.5% in Q1 last fiscal), the 'financing, insurance, real estate and business services' sectors together grew 10.8%, even on a high base of 9.4%. The 'trade, hotels, transport and communications' sectors witnessed just 4% growth, owing partly to a high base effect (13.8% in Q1 of the last fiscal). Overall, services output slowed sharply to 6.9% in Q1 from 7.9% in the previous quarter, reflecting the lagged adverse effects of the industrial slowdown on the services sector. A survey by the central bank has shown that estimated total fixed investment by large firms in new projects which were sanctioned financial assistance nearly halved during 2011-12 indicating further slowdown in economic activity and job creation.

Slowing growth is taking its toll on revenues while government was unable to rein in its expenditure: fiscal deficit during April-July reached Rs 2.64 billion or 51% of the budgeted estimate of Rs.5.1 billion, raising fears of the government breaching its fiscal deficit target of 5.1% of GDP for the current fiscal. Government's total receipts in the first four months of the fiscal was at Rs. 1.73 billion, just 17.7% of the budgeted amount, while its expenditure climbed to Rs. 4.37 billion, or 29.3% of the budgeted amount. With increasing recourse to debt flows and drawdown of reserves to finance the CAD, various external sector vulnerability indicators showed considerable deterioration during 2011-12. The central bank’s report on India’s external debt showed that reserve cover of imports, the ratio of short-term debt to total external debt, the ratio of foreign exchange reserves to total debt, and the debt service ratio deteriorated during the financial year. On the positive side the share of government (external) debt has gone down and the country remains in a comfortable position with regard to short term debt and the debt service ratio relative to other indebted countries.  

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Tuesday, June 19, 2012

What has changed Between Then and Now*?

Since 2011, we are faced with a situation where most analysts have come to agree that Europe needs fiscal integration with a fiscal authority and banking integration, a banking union with eurobonds, a banking supervisor and a European guaranteed deposit fund. Most agree even more that European deposit insurance and debt mutualisation are not optional; they are essential to avoid an irreversible disintegration of Europe’s monetary union as the ERF is a temporary programme that does not lead to permanent euro zone bonds. The main problem remains that any proposal acceptable to Germany could imply a significant loss of sovereignty over fiscal policy for the periphery, particularly Italy and Spain. On the other hand, German concerns about the moral hazard of risking German taxpayers’ money will indeed be hard to justify if meaningful reforms do not materialise in the periphery. But such reforms do take time and the human costs being inflicted in the process are turning out to be more than significant.

Coming Home, the headline figures for economic growth in India have been revised downwards; despite putting in place policy measures that have choked domestic demand and hence growth, prices continue to rise; government spending continues to grow faster than tax revenues, private and foreign investment have slowed down and the rupee has been devalued sharply by market forces, with the rupee hitting an all-time low against the dollar in late-May. Every discussion on the Indian economy centres around the need for filling chronic gaps in areas like infrastructure, skilled labour and productive farming, or on the inefficiency of the system of subsidies. Yet the government remains undecided on crucial issues like removing certain barriers to investment that could put growth back on track, while the central bank is circumstantially forced to remain hawkish in stance even though the latest numbers on growth and inflation increasingly have a stagflationary ring. Yes even in India there is a human cost involved in achieving a 6% vs a 9% growth, which may go un-noticed as the notional loss of being able to change the lives of several waiting to be pulled out of poverty and unemployment.

Missing is the swift and almost unanimous decisions taken by policy makers/implementers through the globe and missing is the flurry of actions taken to stem the Meltdown of 2008. As Time Slips By policy implementers are bent on Defying Gravity and say they are In Control and keep waiting for the Panic Attack. We are left to be Saved By A Miracle, wondering what has changed Between Then and Now? While they found institutions too big to fail they are not so unwilling to fail the very people for whom the institutions supposedly are set up. When would the time be right to come out of the moralistic view on the burden of future generations and look to the sufferings of the present one? If I Could I would be a Time Traveller to Check It Out if ignoring the Echoes and Shadows of Yesterday did we walk Into The Sunset or did we win our Race With Destiny.

(* a la Vinnie Moore)
Get regular updates on Growth, Inflation and other Indian & Global Macro-Financial indicators/data with E-UpDates—A Monthly Statistical Bulletin by Ecofin-Surge.