Indian economy yet to emerge from Covid impact, time to leverage exports growth

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By Rumki Majumdar

The Union government released the GDP figures for the April-June quarter of 2021-22 last week. The data showed that the Indian economy grew 20% in Q1 compared with the same period last year, suggesting a V-shaped recovery. The official GDP growth figures are close to the lower end of our baseline projection spectrum (20.2%) published in June. It suggests that our relatively modest baseline assumptions are playing out. If the recovery path turns out to be closer to what we predicted, India will see growth close to 9% in the current financial year.

While the low base effect (-24.4% in Q1 FY20-21) led to record growth, it masks the impact of the second wave in the quarter. India reports non-seasonally adjusted GDP data. When adjusted for seasonality, GDP contracted 12.4% on a quarter-on-quarter (QoQ) basis in the April-June 2021 quarter as against an increase of 1.5% (QoQ) in the January-March 2021 quarter. This reflects the actual extent of the impact the second wave and the following regional lockdowns have had on the economy.

Last year this time (Q1 FY20-21), the Indian economy had shrank by 25.9% (QoQ). This implies that the impact was far less pronounced this year than that was seen last year when India went into a nationwide lockdown in April-June 2020. That said, the economy shrank from levels two years back suggesting India is yet to emerge from the COVID-induced slump.

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Covid impact on Indian economy

The pandemic impact on consumption and investment was high, as expected. Even though both these growth engines reported a substantial increase on a YoY basis, they lagged substantially from the pre Covid-19 levels by -11.9% and -17.1% suggesting that pandemic uncertainties are weighing on investors’ and consumer’s confidence and economic outlook. While infection anxieties persist, other risks—partly because of the ebb-and-flow nature of the pandemic—may weigh on consumer sentiment and cap the pace of recovery.

One of the biggest challenges will be inflation. The GDP deflator (often referred to as an indicator for inflation) was 9.7% and has increased by 12.8% over the past two years. Inflation has hovered around the upper range of the RBI’s target inflation range (2%-6%) throughout the pandemic and exceeded 6% during the second wave. The supply-side disruptions due to intermittent lockdowns and rising commodity prices (crude oil, iron, steel, etc.) have contributed to higher prices. High prices are likely to increase costs and erode the purchasing power of consumers. Risks of inflation can dent the demand recovery and weigh on pent-up demand.

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Exports can bail out Indian economy

The second challenge for the Indian economy is lower jobs and income. The labour participation rate (LPR) and employment rate (ER) have remained remain low despite improving mobility. This is an indicator of a shrinking labour market, adding to a sense of dejection among the workers no longer pursuing employment. The second wave has had a devastating impact on these variables, which, despite the improvement in the unemployment rate, are unlikely to recover swiftly.

The third challenge will be the weakening household balance sheet. According to Pew Research Center, the pandemic has resulted in a sharp fall in the middle class and a rise in poverty in India. The RBI has reported a decline in growth in savings. At the same time, the decline in bank deposits in FY20–21 suggests that households are continuing to borrow to meet increased health expenditure.

While consumer demand will continue to be the biggest driver for a foreseeable future, it is apparent that it may not aid in a strong and sustainable recovery in the short term. Indian economy will have to explore alternative sources of growth.

The silver lining of the GDP data suggests that exports have done exceedingly well owing to rapid economic recovery in key industrial nations with strong trade ties. It was the fastest growth driver when compared with Q1 of FY 2019-20 (the pre-COVID year). Goods exports—in segments such as engineering goods, chemical products, and pharmaceuticals—did remarkably well.

India must leverage its exports that will aid in recovery in the short run. Immediate measures such as enhancing, improving existing capacity, and even diversifying the resources can promote domestic production, exports, and attract investments. That said, long-term efforts towards sustained reforms and better infrastructure for building capacity should continue in parallel.

(Rumki Majumdar is Economist, Deloitte India.)