It’s been a while since I wrote on the Indian economy and since our second quarter GDP news was released just a fortnight ago, I thought it might make sense to consider this news as well as other issues looming on the horizon. Which is why this piece is not so much about the Q2 FY22 numbers alone, but what they all could add up to in 2022, as India goes to elections in several states, and also the fate of reforms that the government is trying to engineer.
The focus is therefore on the three Es: economy, elections and engineering reforms in such a climate. If we begin with the economy, as indeed we should, the Q2 FY22 GDP was a slight surprise in that India managed to grow 8.4% over the previous year, when we contracted -7.5% and entered a Covid-induced recession. There is obviously a considerable base effect still at play, even as it wears off. While the Indian economy experienced broad-based growth across all sectors, there is no denying that the services sector (especially trade, travel and hotels) is still weak, and that manufacturing growth too had slowed to 5.5%, even though there isn’t such a high base effect the previous year, when it contracted by merely 1.5%. Some of it can be attributed to the second wave of Covid, but the bigger problem seems to be supply shortages and high commodity prices.
And while we can gloat over the fact that our GDP has actually crossed 2019-20 levels, as media were doing, we must note that sectors like services which is the biggest component of our GDP is still below 2019-20 levels. Both hotel, trade, transport as well as financial, real estate and professional services are lower by 9.2% and 2.01% respectively over Q2 of 2019-20.
Besides sectoral growth, the other important economic data to watch are private final consumption as well as gross fixed capital formation, that is household consumption and investment levels in the country. The latter particularly serves as a good leading indicator for the next couple of quarters at least, in terms of economic activity. Here, we find that both grew healthily in the second quarter of FY22, with private consumption growing at 8.6% and investment at 11% over the previous year. Of course, we must remember that these have a low base effect from last year, when they contracted at the rates of -11.8% and -8.5% over Q2 2019-20 levels.
What’s more, I must point out that private final consumption in Q2 of FY22 is still lower than Q2 of FY20 levels by 3.53%, while gross fixed capital formation has grown over the same period by merely 1.5%. The share of private final consumption to GDP has also fallen from 56.7% in Q2 FY20 to 54.5% in Q2 FY22, which ought to be reason for concern. It tells us consumption demand is weak in India, which I have been pointing out for a few years now. The share of gross fixed capital formation to GDP has grown from 31.67% in Q2 FY20 to 32% in the latest quarter. While that is encouraging, it clearly depends on consumer demand staying buoyant and strong.
From the Chief Economic Advisor’s presentation that was aired on business news channels shortly after the news release, it appeared that the bulk of the investment was by the private sector that seemed to increase sequentially as government investment was declining. While it is indeed good that private sector investment in India is showing trends of growth after several years of low to slow growth, one wonders what happened to the government’s push for high capex spending, especially on infrastructure that was promised in the annual budget earlier this year. At the time, the government even argued that infrastructure spending would help create jobs and therefore boost demand, when we all know that there is a considerable time lag between these parameters, as I have also written before.
On the consumption side as well, there is reason to be watchful as inflation begins to crimp demand as seems to be happening in rural India already. According to a Nielsen IQ Report released on the eve of the GDP news release, rural consumption as measured by FMCG sales has contracted by 2.9% in the second quarter, while all of FMCG grew by 12.6%, suggesting that urban demand is holding up a little better. I remember some FMCG companies such as Hindustan Unilever mentioning weakening of rural demand in their quarterly earnings for the second quarter. Some of this can also be attributable to the second wave of Covid as it was more widespread in rural India, though inflation would be the main culprit. And as recently as a couple of days ago, we have had our consumer and wholesale price inflation numbers announced and these indeed confirm our fears. CPI for November 2021 came in at 4.91%, a slight reduction over the previous month, but core inflation remains stubborn at 6.1%. WPI for November 2021 came in at 14.3%, higher than in the previous month, and it was led by food and fuel inflation.
India’s rural economy also largely comprises the informal sector which has been considerably weakened by the pandemic as well as by high inflation. Here too, it appears that large companies from the organized sector have strengthened at the expense of small enterprises from the largely unorganized sector. Soumya Kanti Ghosh, chief economist of India’s largest bank, SBI, argued as did our Chief Economic Advisor, Krishnamurthy Subramanian, that the second wave of Covid won’t have much of an impact on the economy. Except that the two were making very different arguments; SBI’s chief economist was arguing that large organized sector players were taking share away from the small unorganized sector enterprises and that India’s informal sector MSMEs were being quite battered. We need much more data and facts to shed light on this but if this is indeed the case then all the efforts at helping small businesses through schemes like ECLGS (Emergency Credit Lending Guarantee Scheme) were clearly not adequate at keeping those businesses afloat. The Chief Economic Advisor was arguing after the release of the latest GDP data that because the government pursued supply-side measures rather than boosting demand, inflation was kept under control! This, when inflation in India is almost entirely due to supply-side constraints and rising commodity prices and is not of the wage-price kind that the west is experiencing.
In a panel discussion on the Indian economy soon after the GDP news release, economist, Sudipto Mundle, also mentioned that there was deep and long-term scarring in the Indian economy, especially in the rural and informal sector on which there is little direct data available.
Strangely none of the discussions mentioned India’s latest unemployment figures, and what the state of employment reveals about current and future demand. The latest unemployment rate from CMIE (Centre for Monitoring the Indian Economy) as of December 14, 2021 is at 7.43% for India, with urban unemployment being higher at 9.1%. The Economic Times reported that India’s unemployment levels are heading lower according to the periodic labour force survey by the NSO, standing at 9.3% for the Jan-March quarter of 2021, but that is over nine months ago and the second wave of Covid only struck in March-June of this year. And while India’s large companies avoided large-scale layoffs during the pandemic, there was no government measure to help companies keep people in their jobs or provide unemployment benefits, the way there was in western economies such as the US, UK and Europe. Wages too are not growing as fast here, which is why I believe that India is experiencing cost-push inflation led by commodity prices and not by a wage-price spiral.
We must view the latest economic data against the backdrop of all not being well in the wider economy as also consider the latest news that the demand for MNREGA work is again growing, but there is not enough work to be had. And when speaking of the rural economy, one must mention that agriculture recorded good growth at 4.5% in the second quarter, though there are reports of the harvest being delayed due to continued rainfall. There is also the prospect of much of the crop being damaged due to so much unseasonal rain as we are experiencing even now, as the year ends.
With all this, how can one not mention the ill-fated farm laws? Badly conceived ordinances that were pushed through without consultation with the states, the farm laws were destined to meet their demise. There is much need for reforms in India’s agricultural sector, and there have been so many discussions in the past as well as reports to show for it. It is only lack of political will that has kept us from implementing them. When the government of the day dared to show its political will, it fell thanks to lack of due process, and I would add, adequate thought.
The kind of farm reforms that India needs are large and fundamental, covering everything from what kinds of crops each state ought to grow and encourage, creating an alternative market system for it to replace the mandi system and the APMC, the need for MSP at all and on what types of crops, as well as the development of contract farming. The main objective ought to be to have fewer people in farming, earning better remuneration, and with the richer amongst them paying their taxes finally!
Government cannot be the sole or the largest customer of foodgrains, even though our PDS system depends on it in order to ensure adequate food distribution among the poor. In India, we went past the need for government foodgrain procurement for subsistence requirements decades ago. We have had record foodgrain production and buffer stocks to last years, and it’s time the government gave up the procurement policy and focused more on equitable distribution.
Farmers – including the prosperous ones from the three states protesting – have to professionalise themselves and wean themselves off the state. They can do so by growing the right crops to start with, using less of ground water and applying best practices. For too long Indian farmers have been pampered with the wrong policies – including no taxes – because they are a powerful vote bank.
On no account should the government concede to the farmers’ latest demand of a legally guaranteed MSP. It would be a disaster and set a bad precedent for times to come. However, we know we are in election season and that is the main reason for the government repealing the farm laws. Anything is possible at this stage and one hopes that the government as well as all political parties refrain from promising anything as wrongheaded as a legally guaranteed MSP. The country has paid heavily for silly ideas and policies such as this, and free power.
Similarly, for labour reforms that were introduced by some states during the worst of the Covid pandemic and legislation that was pushed through by the centre. There is again a need to revise our labour laws, but for some reason labour reforms in India as indeed elsewhere is seen as only an easier way for companies to fire people. It needn’t be that way: labour reforms should also provide safeguards to employees, skill development and training and enhance their capabilities. In India, where labour is a concurrent subject, there is greater need for discussion between centre and states.
With 90% of employment generated by the informal sector in India, most of these reforms and laws will not apply across large swathes of the economy. Besides, in India one can argue that there is already a relatively “easy” labour regime, with almost 35%-40% of manufacturing labour being employed on contract basis, ie, they are not on company payrolls. Companies have little to no obligation towards labour in terms of wages, annual benefits, etc, and perhaps even less in terms of training and skill enhancement. At the same time, many states also have a reservation policy based on domicile, in addition to those based on caste. These are ways we limit ourselves to finding, recruiting and training the best talent, while still talking of labour reforms.
As several states go to the hustings next year, expect even more bizarre developments in policy. We are lucky to have avoided a third wave of Covid-19 which was expected during the festive season, but with the new Omicron variant spreading across the world, India has plenty to worry about on just controlling the pandemic. The economy will chug along – however slowly – thanks to the private sector and its own momentum, but I think we shouldn’t expect anything on the reforms front. Ideally, the government should go back to the drawing board and devise agricultural reforms of the kind India needs afresh, but having taken a series of missteps and burnt its fingers, it has decided to call them off, putting greater priority on the elections and the farmer vote bank than what the country actually needs. And at a time when we need to make our economy and our MSMEs more competitive, we are witnessing their destruction.
Yes, stock markets are soaring and there are IPOs galore, not to mention some unicorns deciding to raise capital by listing. And while that must be celebrated, a few snazzy start-ups and apps are not going to save India or build its economy.
The featured image at the start of this post is of crowds of people at Varanasi by Lewis Goetz on Unsplash