With weakness in the Indian economy persisting, a debate over the nature of the slowdown is continuing. While early analysis of the slowdown was that it is cyclical in nature, the protracted weakness has prompted analysts to question whether structural factors are at play.
The central bank is in the midst of a similar debate, showed the Reserve Bank of India’s annual report released on Thursday.
“The key question that confronts the Indian economy as it looks ahead to the rest of 2019-20 is: are we dealing with a soft patch, or a cyclical downswing, or a structural slowdown?,” the RBI asked. The answer to that question, the central bank said, will determine whether the economy needs counter-cyclical fiscal and monetary policies or deep-seated reforms.
Growth in the Indian economy fell to a 20-quarter low of 5.8 percent in the fourth quarter of FY19. Data for the first quarter of FY20, due on Friday, is expected to show that GDP growth fell further. If it does, this would be the fifth consecutive quarter of weakening growth.
What’s led to this slowdown?
First Came The Export Slowdown....
The central bank tried to answer this question by assessing the progression of the slowdown.
It started by saying that a slowdown in the global economy had impacted India via the trade channel. Weakness in exports played a role in deceleration of industrial output, including manufacturing.
“In India, the deceleration in industrial output and its main component – manufacturing – to below 4 percent during 2012-19 has larger consequences in terms of employment and income generation in both rural and urban areas,” the RBI said.
Then The Rural Demand Weakness....
In addition to this, the central bank said that rural demand had been sapped by weaker harvests in 2018-19 and depressed crop prices. “This has brought forward concerns about consumption joining investment in the overall slowdown, which is worrisome as consumption accounts for 57 percent of GDP.”
The central bank said that large buffer stocks, structurally low food prices and low farm incomes crate a “self-reinforcing spiral.”
The RBI added the core of the problem is that 44 percent of India’s total labour force is absorbed by the agriculture sector which generates only about 17 percent of gross value added, with an annual average growth of about 3.1 per cent (2011-12 to 2017-18).
Enhancing farm incomes while keeping inflation low has emerged as a significant challenge, the central bank said.
And ‘Animal Spirits’ Are Still Low....
The central bank said that while consumption growth is critical to the Indian economy, it is investment that tends to drive up growth.
“Currently, however, the capex cycle remains muted – firms are preferring to intensely utilise existing capacity to meet demand rather than expand it. The downslide in sales growth of manufacturing companies is impacting sentiments,” the RBI said.
What ails the animal spirits? According to the RBI, the core issue is of domestic demand.
Improving investment sentiment will require continuing focus on improving ease of doing business, reforms in factors of production, such as land and labour, capitalising on opportunities amidst global trade wars and faster implementation of capital expenditures by public authorities, the RBI said.
Cyclical With Shades Of Structural
In final analysis, the RBI said that a decomposition of economic indicators suggests that the recent deceleration could be in the nature of a “soft patch mutating into a cyclical downswing, rather than a deep structural slowdown.”
The central bank, however, acknowledged that trend growth has moderated since 2016-17, contributed mainly by the services sector, especially trade, hotels, transport, communication and broadcasting, and financial, real estate and professional services.
The broadbased cyclical downturn in several sectors – manufacturing; trade, hotels, transport, communication and broadcasting; construction; and agriculture – continues.
Issues and challenges in these sectors need to be addressed for achieving broad-based upturn, the RBI said.
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