Report says there is growing ground for hope but narrowing room for complacency
Following are the major highlights of the Mid Year Analysis: Short-term Growth Outlook
* Investment is yet to pick up significantly.
* But on the upside, inflation has come down dramatically, the monsoons failed to extract as much of a toll on growth as expected.
* India received a large supply side shock in the form of reduced commodity prices that amounted to about 1.5% of GDP.
*The year could end with economic growth around 5.5%.
Inflation outlook
* The stance of monetary policy will be determined not just by the past developments but an assessment of inflationary impulses going forward.
* Oil Prices: The risk that the decline in oil prices will reverse itself always exists. However, the persistence of tempered oil prices seems highly probable
* Economic Activity: Aggregate demand pressures on future inflation from the fiscal side will remain muted.
* Agricultural Inflation: More recently, domestic prices have converged toward international prices.
It is likely that the recent trend of modest MSP price increases (of 3-3.5%%) will continue, moderating inflationary pressures.
* A combination of softness in the economy and reductions in MGNREGA expenditures (declines of 3 and 36% in the last two years) have played a key role. If these trends continue, rural wage growth can continue to decelerate, further moderating inflationary pressures.
Monetary Stance
* Given the RBI's own profile of projected inflation, which includes meeting its January 2016 target of 6%, current policies appear historically tight.
* The present stance of monetary policy, if continued, would be tight compared to recent history.
External Sector Outlook
* For the year as a whole, the CAD will remain close to 2% with higher gold imports-consequent upon the liberalization in November offset by the oil effect, which is yet to be reflected in the data and which could reduce the CAD by 1.5% on an annual basis.
* One source of concern is muted export growth and rising non-oil, non-gold imports that could be affected by India's deteriorating competitiveness, reflected in the appreciation of the real effective exchange rate by 10% since September 2013.
* Net financial/capital have been healthy in the first half of 2014-15. The level of investment flows (FDI plus FII) in April-October 2014 exceeds the estimated level of the CAD for the year. As such, capital flows are expected to be much higher than the baseline estimates of US$ 60 billion.
* The RBI has absorbed a part of these excess flows, resulting in a sizeable reserve accretion on BoP basis.
* Downside risks emanating from global economic events remain, but the outlook for external sector is, for the moment, not malign.
Growth Outlook
* Fundamentally, India's medium-term growth prospects are promising, and trend rate of growth of about 7-8% should be within reach.
* But India faces challenges. Investment has not durably rebounded.
* Gradual reversion to normal monetary policy in the US is less of a threat to India given the improved macroeconomic situation
* India faces challenges that are mostly domestic.
- There are stalled projects to the tune of Rs 18 lakh crore (about 13% of GDP) of which an estimated 60% are in infrastructure.
- One-third firms have an interest coverage ratio of less than one
- Over-indebtedness in the corporate sector with median debt-equity ratios at 70% is amongst the highest in the world.
- Banking sector has restructured assets estimated at about 11-12% of total assets. Displaying risk aversion, the banking sector is increasingly unable and unwilling to lend to the real sector.
Way Forward
* Backlog of stalled projects needs to be cleared more expeditiously, a process that has already begun. Where bottlenecks are due to coal and gas supplies, the planned reforms of the coal sector and the auctioning of coal blocks de-allocated by the Supreme Court as well as the increase in the price of gas, which should boost gas supply, will help.
* Speedier environmental clearances, reforming land and labour laws will also be critical.
* The key underlying problem of allocating the burden from the past-the stock problem that afflicts corporate and banks' balance sheets-needs to be resolved sooner rather than later.
* It seems imperative to consider the case for reviving public investment as one of the key engines of growth going forward, not to replace private investment but to revive and complement it.
* Going forward debt dynamics will continue to work in India's favour as long as growth remains around 6% and the primary deficit remains in the current range of 1% of GDP. A case not just for counter-cyclical but counter-structural fiscal policy, motivated by reviving medium-term investment and growth, may need to be actively considered.
* To be sure, a greater role for the public sector will risk foregoing the efficiency gains from private sector participation. A balance may need to be struck with targeted public investments, carefully identified and closely monitored, by public institutions with a modicum of proven capacity for efficiency, and confined to sectors with the greatest positive spillovers for the rest of the economy.
* Going forward, there is great reason for hope because in addition to important reforms such as liberalizing FDI in insurance, two game-changing reforms are on the horizon: (i) the increasing use of direct transfers, and (ii) the Goods and Services Tax (GST).
* In sum, there is growing ground for hope but narrowing room for complacency
