GDP on a sustainable growth path
Over all, the Survey is upbeat about the recent spurt in GDP growth. Firstly it believes that industrial sector that has slowly lost ground to services in GDP share, has turned the corner - growth of industry, as a proportion of the corresponding growth in services, has improved from 78.9% on an average between 1991-92 and 1999-2000, to 88.7% in the past seven years.
Economic Survey 2006-07: Complete Coverage
Secondly, efficiency improvements in the economy since 1999-2000 reinforce the confidence in the high-growth phase. The ratio of net capital employed to gross value added in the economy, according to the National Accounts Statistics, went down from 2.8 to 2.6 between 1999-2000 and 2004-05.There is a tangible shift in the source of growth. It is the investment pattern rather than demand and consumption for consumer goods that has powered the last couple of years' spurt in GDP growth. Investment, in general being a forward-looking variable, reflects a high degree of business optimism.
The earlier estimates of gross domestic capital formation (GDCF) for FY05 of 30.1%, released by CSO in its advance estimates, now stand upgraded to 31.5% in the quick estimates. The rate of GDCF for 2005-06 as per the quick estimates released by CSO is 33.8%. This sharp increase in the investment rate has sustained the industrial performance and reinforces the outlook for growth.
Though growth has continued to be broad-based among the service sector industries, 'trade, hotels, transport and communication services' were the fastest growing. Their fast growth owes a lot to progress in information technology (IT) and IT-enabled services, both rail and road traffic, and fast addition to existing stock of telephone connections, particularly mobiles.
Manufacturing growth keeps chugging along
Most sectors in FY07 not only witnessed sustained growth in manufacturing, but also a distinct improvement in the growth of electricity. Within manufacturing, chemicals, basic metals, machinery and equipments and transport equipments, with a weight of 35% in IIP (Index of Industrial Production, used to measure industrial growth), contributed 55.2% to its growth.
All these industries are skill-intensive and produce relatively high value-added products. Growth in cotton textiles and textile products was also in double digits. Poor performance of the sub-sectors of food products and leather, however, continues to be a cause of concern as they are more labour-intensive and depend upon local resources.
Agricultural sector a cause for concern
The Survey believes the lowering of agricultural growth in the recent years to a meager 2.7% in FY07, is a result of low investment, imbalance in fertiliser use, low seeds replacement rate, a distorted incentive system and low post-harvest value addition. With almost 60% of the population directly depending on this sector, low agricultural growth has serious implications for the 'inclusiveness' of growth.
Furthermore, poor agricultural performance can complicate maintenance of price stability with supply-side problems in essential commodities of day-to-day consumption. The recent spurt of activity in food processing and integration of the supply chain from the farm gate to the consumer's plate has the potential of redressing some of the root causes such as low investment, poor quality seeds, and little post-harvest processing.
Inflation is manageable, yet!
As much as 39.4% of the overall inflation (based on the Wholesale Price Index, or WPI) on February 3, 2007 came from the primary group of commodities. These supply side snags are being addressed by the government through lower import duties and banning of exports of commodities in short supply (though we believe these measures could have been more timely!).
The Survey believes high money supply growth thanks to more credit being doled out by the banks and increased flow of foreign currency thanks to higher investments into India, is being strictly monitored by the RBI. The central bank interventions lead to a change in the liquidity and inflation environment - reflected in the continuous hardening of interest rates in FY06 and FY07 so far. However, the hardening of rates is more pronounced at the shorter end of the yield curve, suggesting concerns about inflation only in the short run.
Changed consumption patterns
Overall consumption in the economy has declined. People are also consuming different things. There are substantial changes in the consumption basket in terms of the shares of different commodity groups. In Private Final Consumption Expenditure (PFCE), the share of food, beverages and tobacco came down from 43% FY03 to 39% in FY06 while more is being spent on transport and communication (as a proportion of PFCE, it rose from 16% in FY03 to 19% in FY06).
PFCE, at current prices as a proportion of GDP, has shown a declining trend especially since FY02; as a proportion of GDP, it declined from 63% in FY03 to 59% in FY06.
Improved savings help investments
Savings ratio has risen from 26.4% of GDP in FY03 to 32.4% in FY06 thanks to the households as well as the private corporates saving more than what they did in the past. But the real winner is the public sector that has turned from a net dis-saver to a net saver in the same period, though it slipped a little in FY06. GDCF rose further to 34% of GDP in FY06 as per the quick estimates, widening the saving–investment gap to 1.3% of GDP (see table below), with its implications for the current account of the balance of payments.
Savings and investments
| (% to GDP) | FY00 | FY01 | FY02 | FY03 | FY04 | FY05 | FY06 |
| Gross Domestic Savings | 24.8 | 23.4 | 23.5 | 26.4 | 29.7 | 31.1 | 32.4 |
| Public | (0.8) | (1.9) | (2.0) | (0.6) | 1.2 | 2.4 | 2.0 |
| Private | 25.6 | 25.3 | 25.5 | 27.0 | 28.5 | 28.7 | 30.0 |
| i) Household | 21.1 | 21.0 | 21.8 | 22.7 | 23.8 | 21.6 | 22.0 |
| Financial | 10.6 | 10.2 | 10.8 | 10.3 | 11.3 | 10.2 | 11.0 |
| Physical | 10.5 | 10.8 | 10.9 | 12.4 | 12.4 | 11.4 | 10.0 |
| ii) Private corporate | 4.5 | 4.3 | 3.7 | 4.2 | 4.7 | 7.1 | 8.0 |
| Gross Domestic Investment | 25.9 | 24.0 | 22.9 | 25.2 | 28.0 | 31.5 | 33.0 |
| Public | 7.4 | 6.9 | 6.9 | 6.1 | 6.3 | 7.1 | 7.0 |
| Private | 17.9 | 16.5 | 16.3 | 18.4 | 19.4 | 21.3 | 23.0 |
| Valuables | 0.8 | 0.7 | 0.6 | 0.6 | 0.9 | 1.3 | 1.0 |
| Gross fixed capital formation | 23.4 | 22.8 | 23.0 | 23.8 | 24.8 | 26.3 | 28.0 |
| Change in stocks | 1.9 | 0.6 | 0.2 | 0.7 | 0.8 | 2.0 | 2.9 |
| Valuables | 0.8 | 0.7 | 0.6 | 0.6 | 0.9 | 1.3 | 1.2 |
| Saving - Investment gap | (1.1) | (0.6) | 0.6 | 1.2 | 1.6 | (0.4) | (1.3) |
| Public | (8.2) | (8.8) | (8.9) | (6.6) | (5.2) | (4.7) | (5.4) |
| Private | 7.7 | 8.8 | 9.2 | 8.6 | 9.2 | 7.4 | 6.9 |
Internal accruals fund growth
The sharp rise in the savings rate of the private corporate sector for four years in a row to touch 8.1% of GDP in FY06 has financed a large part of its investment in the on-going long capex cycle. Recourse to private placements and Initial Public Offerings (IPOs) also has grown to Rs 1,618 bn in CY06. Households appetite for mutual funds increased by more than four-fold from Rs 255 bn in CY05 to Rs 1,050 bn in CY06. Savings in financial assets, after declining to 10.2% in FY05, more than recovered to 11.7% of GDP in FY06 at the cost of savings in physical assets (real estate and gold) that declined from a high of 12.4% in FY04 to 10.7% of GDP in FY06.
Investment requirements for infrastructure during the Eleventh Five Year Plan (2007-12) are estimated to be around US$ 320 bn. While nearly 60% of these resources would come from the public sector, the balance would need to come either from the private sector or through public-private partnership (PPP).
Government focus needs to shift
The two issues confronting India today are: the sustainability of high growth with moderate inflation; and the inclusive nature of such high growth. The inclusive nature of the growth itself will be conditioned by the progress that is made in the areas of education, health and physical infrastructure.
For this the government needs to focus more on these priorities:
Rising to the challenge of maintaining and managing high growth
Bolstering growth through fiscal prudence and high investment
Improving the effectiveness of government intervention in critical areas such as education, health and support for the needy.
Only then will the growth path's trajectory will be maintained in the higher single digits.
Equitymaster.com is one of India's premier finance portals. The web site offers a user-friendly portfolio tracker, a weekly buy/sell recommendation service and research reports on India's top companies.
