CRISIL Research has released a report where it has lowered its GDP growth forecast for India for 2013-14 to 5.5% from its previous estimate of 6.0 per cent. The research firm now expects industry and services to grow at a lower rate of 3.5 per cent and 6.9 per cent respectively. Crisil’s forecast for agriculture GDP growth is, however, unchanged at 3.5 per cent.
India GDP Growth 2013- 2014
The reasons for the downward revision in India’s GDP growth are:
- Significantly diminished probability of a repo rate cut during the rest of 2013-14. As a result, there is now less likelihood of a decline in lending rates during the year, even if the monetary tightening measures undertaken recently to curb the rupee’s volatility are reversed.
- Weaker-than-anticipated momentum in the manufacturing sector along with continued contraction in mining output in April-May 2013.
- Lowering of the euro zone GDP growth forecast for 2013 to -0.8 per cent from -0.5 per cent earlier, as well as lowering of US GDP growth forecast to 2 per cent from 2.4 per cent (Standard & Poor’s).
Analysts at CRISIL continue to believe that the Indian GDP growth in 2013-14 will be higher than last year’s 5 per cent, it now hinges critically on an improvement in farm incomes. So far, the monsoons have been good; this will lead to an above-trend growth of 3.5 per cent in agriculture in 2013-14.
Beyond 2013-14, economic recovery depends on the revival of private investment. It is, therefore, important to sort out issues related to fuel supply and procedural delays with respect to infrastructure to improve the business environment and spur investment activity.
Monetary policy support to bolster growth, unlikely
The downside risks to India’s GDP growth in 2013-14 have risen markedly and led us to revise our 2013-14 GDP forecast down to 5.5 per cent from the April forecast of 6.0 per cent. Between July 15th and 23rd, the Reserve Bank of India (RBI) announced the following monetary tightening measures aimed at curbing rupee volatility:
- The Marginal Standing Facility (MSF) rate hiked to 10.25 per cent, 300 basis points above the repo rate. The Bank Rate stands to 10.25 per cent.
- The overall limit for access to funds under liquidity adjustment facility (LAF) by each individual bank set at 0.5 per cent of its own net demand and time liabilities (NDTL).
- Effective July 27, 2013, banks now required to maintain a higher minimum daily CRR balance of 99 per cent of the required cash reserve ratio (compared to 70 per cent earlier) on an average daily basis during a reporting fortnight.
These measures will push up the borrowing costs for commercial banks. So, there is now little possibility of easing of lending rates during 2013. Even if these measures are reversed later in 2013, any cut in the repo rate would become difficult – with WPI inflation likely to rise in the coming months due to a weak rupee. In the base case scenario, we now no longer expect a repo rate cut over the course of this fiscal year. With lending rates remaining higher than expected, the momentum in household consumption demand and interest- sensitive sectors would be somewhat weaker than anticipated. This will further delay manufacturing sector recovery.
Data released on July 12 showed a larger-than-expected decline (-1.6 per cent) in industrial production in May. In the first two months of the fiscal year, average industrial production growth was a mere 0.1 per cent. The mining sector continues to suffer on account of regulatory mining bans in some states, and issues relating to mining have not been resolved as fast as expected. As a result, mining GDP is now expected to grow only marginally by 1.0 per cent in 2013-14, following two consecutive years of contraction. Industrial output is now expected to grow at a slower pace of 3.5 per cent; we expect the negative effects of this slowdown to spill over into services sectors such as trade and transport, and banking sectors. As a result, we now expect services to grow at under 7 per cent in 2013-14 – the lowest in the last decade.
Since April (when we last released our GDP forecast), the global economic environment has also worsened somewhat. The 2013 growth forecast for the euro zone has now been revised down to -0.8 per cent from -0.5 per cent in April (Standard & Poor’s, June 2013). The euro zone currently accounts for around 15 per cent of India’s merchandise exports. A deeper recession in the euro zone has prompted caution on the external demand front. In addition, despite relative optimism on US economic recovery, Standard & Poor’s (in July 2013) has also revised down US GDP growth forecast for 2013 to 2 per cent from 2.4 per cent.
However, our outlook for agriculture growth, which hinges on a normal monsoon, remains unaltered. Due to the low base and expectations of a normal monsoon, we believe that agriculture will grow at an above-trend rate of 3.5 per cent. The monsoons were 15.6 per cent above normal till July 17. If the monsoon fails or becomes erratic, there will be no expansion in agriculture GDP and overall GDP growth would slip below 5 per cent.
WPI inflation to average 5.3 per cent in 2013-14
Despite a downward revision to GDP growth, our average WPI inflation forecast for 2013-14 remains unchanged at 5.3 per cent. With GDP growth coming down to 5.5 per cent, demand pressures on inflation will subside further. The depreciation of the rupee, however, has emerged as an upside risk to inflation; it will offset the gains arising from weak demand pressures and easing global crude oil and commodity prices. The depreciation of the rupee will raise prices of non-administered fuels such as petrol, which adjust quickly to global price changes. Upward risks to our inflation forecast include higher food inflation and pressure on the government to raise prices of administered items (such as diesel, LPG) to maintain its fiscal deficit target.
Fiscal deficit to rise to 5.2 per cent of GDP in 2013-14
Fiscal deficit is now expected to be 5.2 per cent of GDP in 2013-14. This is marginally higher than our earlier estimate of 5.1 per cent and significantly higher than the government’s budgeted estimate of 4.8 per cent. Lower GDP growth would also have an adverse impact on tax collection. However, we believe that if revenue collection is adversely affected, the government is likely to curtail its expenditure from the budgeted levels rather than allow the fiscal deficit to go beyond 5.2 per cent of GDP. With GDP growth remaining weak and investor confidence not high, any ballooning of the fiscal deficit may have adverse consequences for foreign capital flows and, hence, the rupee.
10 year G-sec yields to stay around 7.5-7.7 per cent by March-end 2014
CRISIL Research expects the 10 year benchmark G-sec to settle higher at 7.5-7.7 per cent by March-end 2014 compared to our earlier estimate of 7.3-7.5 per cent. A higher fiscal deficit due to a shortfall in revenues will increase government borrowings. In addition, recent measures by the RBI indicate a liquidity tightening bias, which could create upward pressure on yields.
CAD to decline to 4.2 per cent of GDP in 2013-14; rupee to settle at 56 per US$ by March-end 2014
CRISIL Research now expects the current account deficit (CAD) to ease to 4.2 per cent of GDP in 2013-14, slightly lower than our earlier estimate of 4.5 per cent. Lower CAD is because non-oil import growth will be lower than previously anticipated. Within non-oil imports, CRISIL Research expects gold imports to fall by 20- 25 per cent (in dollar terms) in 2013-14, driven by factors such as restrictions on gold imports, ban on sale of gold coins and bars in the domestic market, and reduced attractiveness of gold as an investment option (due to the decline in inflation). Even if gold import volumes remain the same, the value in dollar terms will fall by around 20 per cent due to the sharp decline in gold prices. Capital and consumption goods imports will also moderate due to weak domestic demand.
We, however, maintain our Rupee/US$ forecast at 56 by March 2014 for the following seasons.
CRISIL expects lower CAD in 2013-14, the country will still need foreign capital inflows of around US$81 billion to fund the CAD during the fiscal. We estimate that the RBI’s recent measures and future policy actions by the government will result in net inflows of $76 billion. Of these, 30 per cent are portfolio flows and are the most volatile. Ensuring adequate portfolio inflows, at a time of high volatility in global capital flows, will be challenging. This makes measures such as NRI bonds, FDI reforms in insurance and pension and more relaxed norms for FII investment, policy-focus areas.
The current flight of capital and the sharp plunge in the rupee is a short-term phenomenon, largely in response to the uncertainty around the impact of the US Federal Reserve’s pullback of quantitative easing. We believe that this trend will reverse as CAD decreases and inflows pick up. RBI’s liquidity tightening measures have also reduced the prospects of a further repo rate cut during 2013-14. Improved interest rate arbitrage will encourage debt inflows and, in turn, support the rupee.
Raising FDI limits in telecom and defence (announced on July 16) is an example of the likely policy direction, namely opening foreign investment avenues to improve investor sentiment and encourage capital inflow. This, if successfully done, can act as a pull factor for foreign capital inflows and help strengthen the rupee from its current levels. Even at 56 to the dollar, the rupee will be weaker than its March 2013 level.