Abstract
This 2015 Article IV Consultation highlights that India’s near-term growth outlook has improved, and the balance of risks is now more favorable, helped by increased political certainty, several positive policy actions, improved business confidence, and reduced external vulnerabilities. Growth is projected at 5.6 percent for FY 2014/15, picking up to 6.3 percent in FY 2015/16, as a result of the revival in industrial and investment activity. However, weaknesses in India’s corporate and bank balance sheets will weigh on credit growth, and fiscal restraint and a tight monetary stance will act as headwinds in the near term, offsetting the positive growth impact of the improved commodity terms of trade.
1. On behalf of our authorities, we would like to thank staff for a well-written, comprehensive and evenhanded assessment of recent macroeconomic and financial sector developments in India and the evolving outlook. The report is the outcome of the productive and candid discussions that the Mission had with our authorities. Our authorities broadly share the staff’s assessment.
2. The Indian economy has made a remarkable turnaround since mid-May 2013 when the ‘taper tantrum’ induced turmoil in global financial markets had a significant impact on the Indian economy. Three main concerns that arose were: a high and rising current account deficit; high fiscal deficit; and elevated inflation and inflation expectations. Our authorities did not lose time to take quick, decisive, and well-thought out policy measures to address the emerging vulnerabilities. As a result, the present situation marks a significant improvement over that which prevailed in May 2013. India’s current account deficit has declined sharply; inflation and inflation expectations have moderated significantly; and the fiscal deficit is being contained. Our authorities continue to pursue the path of fiscal consolidation. Furthermore, various measures taken by the newly elected government at the Centre have led to a significant improvement in business confidence.
3. Even as the macroeconomic situation is improving, some challenges remain to put the economy on a sustainable high growth path. Investment activity remains weak due to some segments of the corporate sector being overleveraged along with their related impact on bank balance sheets. A full-blown recovery of the private sector is thus being restrained. Fiscal consolidation could also have some impact on the speed of economic activity. Our authorities are, therefore, trying to strike a fine balance between supporting the recovery and pursuing a prudent fiscal policy. The new government is pursuing a policy regime that promotes higher growth and lower inflation, accompanied by a sustained external sector balance.
Recent Macroeconomic Developments
GDP growth and Short-term Outlook
4. The Indian economy is now clearly on a recovery path. India’s growth recovered to 7.4 per cent in the first three quarters (April-December) of 2014-15 as compared with 7.0 per cent during the same period of last year. The GDP series has recently been revised by updating the base year and incorporating several methodological improvements that better capture the evolving structure of the economy (Annex). Based on the revised series, India’s GDP growth for 2013-14 has been estimated at 6.9 per cent vis-à-vis 5.0 per cent in the old series partly because of some downward revisions in the previous year. However, the size of the nominal GDP for 2013-14 under the revised series is broadly the same as that under the old series. The Advance Estimates for 2014-15 have placed India’s GDP growth higher at 7.4 per cent as compared with 6.9 per cent last year, and higher than most current projections.
5. The outlook for the Indian economy beyond the current year has also improved significantly. Several positive developments such as moderation in inflation, the policy rate cut by the Reserve Bank of India (RBI), real income gains from decline in oil prices and overall improvement in the business and consumer confidence should further improve the outlook.
Fiscal Policy
6. India has continued on the path of fiscal consolidation. The GFD of the Central Government, which was 5.7 per cent of GDP in 2011-12, declined to 4.6 per cent in 2013-14 and is budgeted to decline further to 4.1 per cent in 2014-15 (these estimates are not materially affected by the GDP revisions). In order to contain the fiscal deficit on a sustained basis, our authorities have initiated several measures. First, the government announced deregulation of diesel prices in October 2014. Second, taking advantage of the falling oil prices, the excise duty on petroleum products has been raised in stages, and the formula for fixing the price of natural gas has been revised. Third, the subsidy regime is being overhauled and made more targeted while providing protection to the vulnerable sections of society; for instance, the cooking gas subsidy has been replaced by direct transfers on a national basis. Fourth, an Expenditure Management Commission has also been set up to look into various aspects of expenditure reforms to be undertaken by the government. The Commission has since submitted its interim report. However, fiscal consolidation so far has largely been achieved by reduction in expenditure. The realization of revenues has not fully matched the targets set, though various measures such as increase in excise duty on petroleum products and expected disinvestment proceeds are supporting fiscal consolidation.
7. Our authorities give paramount importance to fiscal prudence not only to improve immediate macroeconomic fundamentals but also because of the consideration of intergenerational equity.
Inflation and Monetary and Exchange Rate Policies
8. Inflation, which was a major concern for India during 2010-13, has moderated significantly. CPI inflation, which is now used as the main measure of headline inflation by the Reserve Bank of India (RBI), declined to 5 per cent in December 2014 from 11.2 per cent in November 2013. The sharp decline in global commodity prices, especially crude oil, tight monetary and fiscal policies, and supply side measures, including lower increases in minimum support prices for major foodgrains, have helped in containing inflation. The Reserve Bank has indicated that inflation is likely to be around 6 per cent by January 2016. Reflecting softening of inflation, both near-term and longer-term inflation expectations of households have also moderated to single digits for the first time since September 2009.
9. Reflecting the easing of inflationary pressures, the Reserve Bank of India reduced the policy rate by 25 basis points in January 2015. However, the RBI left the policy rate unchanged in February 2015. It indicated that further monetary policy measures will depend on developments on both the disinflationary process and on the fiscal front.
10. India’s current account deficit (CAD) declined sharply from 4.8 per cent of GDP in 2012-13 to 1.7 per cent in 2013-14 and is expected to decline further to 1.3 per cent in 2014-15. Improvement in the current account has been underpinned by a sharp decline in gold imports and in oil prices. Reflecting the improved domestic macroeconomic situation as also the continued accommodative global monetary conditions, India has received large portfolio flows in the recent period - much higher than the current account deficit. This has enabled the Reserve Bank of India to build up its foreign exchange reserves, which are now at US$ 328 billion (as of January 30, 2015), up by US$ 52 billion from the level at end-August 2013. Recognizing the improved external balance position, the RBI has liberalized outflows for residents. For instance, the limit on remittances by Indian entities for making overseas direct investment (ODI) under the automatic route, which was reduced in August 2013 from 400 to 100 per cent of their net worth, was reversed in July 2014. In early February 2015, the limit of foreign exchange remittance for individuals was enhanced from US$ 125,000 per person per year to US $ 250,000 as a further exercise in macro-prudential and capital flow management. This limit is available to individuals without end-use restrictions, except for prohibited transaction such as lotteries.
11. The objective of India’s exchange rate policy is to maintain orderly conditions in the market. The rupee’s exchange rate is determined by market forces of demand and supply. The Reserve Bank of India intervenes mainly to contain excessive volatility in the market. India’s foreign exchange intervention strategy is not guided by the need to enhance growth or reduce inflation in India, as indicated by staff.
Financial Sector
12. Banks in India remain well capitalized with the CRAR at 12.8 per cent. The capital adequacy ratio of public sector banks is also comfortable at around 12 per cent and is well above the regulatory requirement. The government has infused capital of Rs. 586 billion in public sector banks in the last four years (2011-14) and plans to further infuse an amount of Rs. 112 billion in 2014-15 in order to ensure continued compliance with Basel norms and to provide ample space for growth commensurate with the overall credit needs of the growing economy. At the same time, the government is also planning to dilute its stake in some public sectors banks to 52 per cent.
13. The growth slowdown of recent years has had an impact on banks’ asset quality. High indebtedness of some corporates has impacted banks’ balance sheets. However, there is some evidence that several of the corporates are on the path of deleveraging and their debt equity ratios seem to be stabilizing. There has also been renewed focus on speedy regulatory clearances for projects and their implementations. Once the stalled projects reach the stage of commercial operations, it will help improve the profitability of the corporate sector, which, in turn, will lead to an improvement in asset quality of banks. The stress tests by the Reserve Bank in the baseline scenario of improving the overall macroeconomic situation, as is expected, suggest that the gross non-performing assets ratio of commercial banks may decline to 4.0 per cent by March 2016 from 4.5 per cent as at end-September 2014.
14. Although NPLs continue to be at a manageable level, the RBI has also introduced a framework for revitalizing distressed assets. The framework outlines a corrective action plan that will incentivize an early identification of problem accounts which are considered viable and their timely restructuring and taking prompt steps for recovery or sale of unviable accounts.
15. The recent slowdown in credit growth has been on account of a combination of factors with any risk aversion by banks being only one of several factors. As such with comfortable capital adequacy ratios, banks should be able to increase the credit flows and support the recovery. With buoyant secondary markets, banks should also be in a position to raise capital from the market.
16. The regulatory regime for NBFCs has been tightened over the years to bring it in broad alignment with that for commercial banks.
17. Financial inclusion has been a new thrust area for the new government. To promote financial inclusion, a new scheme (Pradhan Mantri Jan Dhan Yojana) was launched in August 2014 to open bank accounts for poor families. It is a unique scheme which embeds features such as debit card, credit facility and accident and life insurance cover. In a short span of about 6 months, a record number of 126 million bank accounts have been opened as against the target of 100 million. The opening of a large number of accounts should also facilitate direct benefit transfers to the beneficiaries and improve public expenditure management.
18. To promote competition, two new private banks were issued licenses in 2014. A framework has also been put in place for licensing differentiated banks (payment banks and small finance banks) for serving niche interests. The Reserve Bank of India has received 72 applications for small finance banks and 41 applications for payment banks. The final selection will be made on the recommendations of the two committees constituted by the RBI for the purpose.
Structural Reforms
19. To raise the long-term growth potential of the economy, our authorities have introduced several structural reforms. FDI limits have been relaxed in several sectors such as railway infrastructure, construction, defence and insurance sectors. Diesel prices have been deregulated, which should facilitate new investments in this sector as well as promote efficiency. Gas prices have been increased and linked transparently and automatically to international prices so as to provide incentives for greater gas supply and thereby relieving the power sector bottlenecks. The coal sector has been rationalized through disinvestment of Coal India Ltd (a public sector enterprise) and reallocation of all the cancelled coal blocks through auction process. Progress has also been made in the process to initiate legislative action relating to introduction of the goods and services tax (GST). Some flexibility is also being introduced in labor laws. Several supply side bottlenecks have also been addressed. Efforts are afoot to skill the youth with an emphasis on employability and entrepreneurial skills. A pan India program ‘Digital India’ is being planned to provide broad band connectivity up to the village level, improved access to services through IT enabled platforms and greater transparency in government processes. The government is also stepping up efforts to implement a program of disinvestments.
Medium-term Prospects
20. Recent policy initiatives in land acquisition, efforts underway to unlock mining activity, liberalization of foreign direct investment limits and predictability of the tax regime should help to improve the investment climate. India has announced a national strategy for ‘Make-in-India’ to boost manufacturing, complete work on industrial corridors, and build 100 smart cities. There is a proposal to set up 10 coastal economic regions. Several structural constraints and supply bottlenecks are also being addressed. Project appraisal and approval processes have been liberalized. All these announcements have led to an improvement in business confidence, which is reflected in new investment intentions. Several stalled projects cleared are expected to be off the ground soon. Indian stock markets have outperformed many of its peers. This augurs well for raising capital from the market to support investment. The moderation in inflation should also encourage financial savings. It is the endeavor of our authorities to achieve a sustained growth of 8 per cent or above along with macro-economic stabilization in an environment of lower and stable inflation, fiscal consolidation, a manageable external situation, and continued financial deepening and development.
Conclusion
21. The Indian economy is in much better shape now than it was a year ago. External sector vulnerability has been addressed and it has become much more resilient. Inflation and inflation expectations have moderated significantly. The fiscal deficit has been contained and the process of fiscal consolidation continues. The Indian economy is now clearly on a recovery path and is the only major emerging economy whose growth rate has been revised upwards recently by the Fund for 2014. The recovery should gather further momentum once the impact of various measures initiated recently is felt fully. As such India is now also better prepared to deal with global financial market volatility that could arise in the context of US monetary policy normalization. As India’s underlying vulnerabilities have receded, there is some room for countercyclical macroeconomic policies to respond to domestic and external shocks.
22. The challenge now is to maintain such overall macroeconomic conditions on a sustained basis so that the Indian economy is able to achieve a high growth of 8 per cent and above over an extended future timeframe spanning a couple of decades.
Annex1
The Central Statistics Organization (CSO) of India, which compiles data on national accounts, introduced in January 2015 changes in the compilation of the National Accounts, consistent with the adoption of the 2008 System of National Accounts, as detailed below:
i) Headline growth rate will now be measured by GDP at market prices in keeping with international practice. Although data on GDP at market prices were compiled and disseminated earlier, it was GDP at factor cost, which was used as a measure of headline growth.
ii) The coverage of the economy under the National Accounts has been improved with more comprehensive coverage of the corporate sector and different segments in the financial sector and improved coverage of activities of local bodies and autonomous institutions.
iii) The base year has been shifted from 2004-05 to 2011-12.
The CSO released data for three years 2011-12 to 2013-14 based on the new 2011-12 series (Tables 1 and 2). Back data for the earlier years in the new series are expected to be released later.
Changes in Growth Rates
Changes in Growth Rates
| S.No. | Industry | Growth at current prices | Growth at constant prices | ||||||
|---|---|---|---|---|---|---|---|---|---|
| 2012-13 | 2013-14 | 2012-13 | 2013-14 | ||||||
| 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | ||
| 1. | Agriculture, forestry and fishing | 9.7 | 10.8 | 15.9 | 12.7 | 1.4 | 1.2 | 4.7 | 3.7 |
| 2. | Mining and quarrying | −0.1 | 8.4 | 0.1 | 4.8 | −2.2 | −0.2 | −1.4 | 5.4 |
| 3. | Manufacturing | 6.9 | 11.6 | 2.2 | 9.3 | 1.1 | 6.2 | −0.7 | 5.3 |
| 4. | Electricity, gas, water supply & other utility services | 15.8 | 10.0 | 29.2 | 14.2 | 2.3 | 4.0 | 5.9 | 4.8 |
| 5. | Construction | 10.2 | 3.6 | 7.7 | 8.3 | 1.1 | −4.3 | 1.6 | 2.5 |
| 6. | Trade, repair, hotels and restaurants | 10.9 | 18.5 | 7.0 | 20.2 | 4.5 | 10.3 | 1.0 | 13.3 |
| 7. | Transport, storage, communication & services related to broadcasting | 15.3 | 15.9 | 10.2 | 12.1 | 6.0 | 8.4 | 6.1 | 7.3 |
| 8. | Financial, real estate & business services | 17.1 | 17.4 | 19.9 | 14.8 | 10.9 | 8.8 | 12.9 | 7.9 |
| 9. | Community, social & personal | 16.2 | 17.4 | 13.5 | 14.8 | 5.3 | 8.8 | 5.6 | 7.9 |
| TOTAL GVA | 11.9 | 12.9 | 11.5 | 13.2 | 4.5 | 4.9 | 4.7 | 6.6 | |
Changes in Growth Rates
| S.No. | Industry | Growth at current prices | Growth at constant prices | ||||||
|---|---|---|---|---|---|---|---|---|---|
| 2012-13 | 2013-14 | 2012-13 | 2013-14 | ||||||
| 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | ||
| 1. | Agriculture, forestry and fishing | 9.7 | 10.8 | 15.9 | 12.7 | 1.4 | 1.2 | 4.7 | 3.7 |
| 2. | Mining and quarrying | −0.1 | 8.4 | 0.1 | 4.8 | −2.2 | −0.2 | −1.4 | 5.4 |
| 3. | Manufacturing | 6.9 | 11.6 | 2.2 | 9.3 | 1.1 | 6.2 | −0.7 | 5.3 |
| 4. | Electricity, gas, water supply & other utility services | 15.8 | 10.0 | 29.2 | 14.2 | 2.3 | 4.0 | 5.9 | 4.8 |
| 5. | Construction | 10.2 | 3.6 | 7.7 | 8.3 | 1.1 | −4.3 | 1.6 | 2.5 |
| 6. | Trade, repair, hotels and restaurants | 10.9 | 18.5 | 7.0 | 20.2 | 4.5 | 10.3 | 1.0 | 13.3 |
| 7. | Transport, storage, communication & services related to broadcasting | 15.3 | 15.9 | 10.2 | 12.1 | 6.0 | 8.4 | 6.1 | 7.3 |
| 8. | Financial, real estate & business services | 17.1 | 17.4 | 19.9 | 14.8 | 10.9 | 8.8 | 12.9 | 7.9 |
| 9. | Community, social & personal | 16.2 | 17.4 | 13.5 | 14.8 | 5.3 | 8.8 | 5.6 | 7.9 |
| TOTAL GVA | 11.9 | 12.9 | 11.5 | 13.2 | 4.5 | 4.9 | 4.7 | 6.6 | |
Shares in Gross Value Added (GVA) at Current Prices
Shares in Gross Value Added (GVA) at Current Prices
| S.No. | Industry | 2011-12 | 2012-13 | 2013-14 | |||
|---|---|---|---|---|---|---|---|
| 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | ||
| 1. | Agriculture, forestry and fishing | 17.9 | 18.4 | 17.5 | 18.0 | 18.2 | 18.0 |
| 2. | Mining and quarrying | 2.7 | 3.2 | 2.4 | 3.1 | 2.1 | 2.8 |
| 3. | Manufacturing | 14.7 | 18.1 | 14.1 | 17.9 | 12.9 | 17.3 |
| 4. | Electricity, gas, water supply & other utility services | 1.6 | 2.4 | 1.7 | 2.3 | 1.9 | 2.3 |
| 5. | Construction | 8.2 | 9.4 | 8.1 | 8.7 | 7.8 | 8.3 |
| 6. | Trade, repair, hotels and restaurants | 17.4 | 10.8 | 17.2 | 11.3 | 16.5 | 12.0 |
| 7. | Transport, storage, communication & services related to broadcasting | 7.3 | 6.5 | 7.5 | 6.6 | 7.5 | 6.6 |
| 8. | Financial, real estate & business services | 16.5 | 18.8 | 17.2 | 19.5 | 18.5 | 19.8 |
| 9. | Community, social & personal services | 13.8 | 12.5 | 14.3 | 12.5 | 14.5 | 12.9 |
| TOTAL GVA | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | |
Shares in Gross Value Added (GVA) at Current Prices
| S.No. | Industry | 2011-12 | 2012-13 | 2013-14 | |||
|---|---|---|---|---|---|---|---|
| 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | 2004-05 Series | 2011-12 Series | ||
| 1. | Agriculture, forestry and fishing | 17.9 | 18.4 | 17.5 | 18.0 | 18.2 | 18.0 |
| 2. | Mining and quarrying | 2.7 | 3.2 | 2.4 | 3.1 | 2.1 | 2.8 |
| 3. | Manufacturing | 14.7 | 18.1 | 14.1 | 17.9 | 12.9 | 17.3 |
| 4. | Electricity, gas, water supply & other utility services | 1.6 | 2.4 | 1.7 | 2.3 | 1.9 | 2.3 |
| 5. | Construction | 8.2 | 9.4 | 8.1 | 8.7 | 7.8 | 8.3 |
| 6. | Trade, repair, hotels and restaurants | 17.4 | 10.8 | 17.2 | 11.3 | 16.5 | 12.0 |
| 7. | Transport, storage, communication & services related to broadcasting | 7.3 | 6.5 | 7.5 | 6.6 | 7.5 | 6.6 |
| 8. | Financial, real estate & business services | 16.5 | 18.8 | 17.2 | 19.5 | 18.5 | 19.8 |
| 9. | Community, social & personal services | 13.8 | 12.5 | 14.3 | 12.5 | 14.5 | 12.9 |
| TOTAL GVA | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | 100.0 | |
The details are available in the Press Note of January 30, 2015 and could be accessed at http://mospi.nic.in/Mospi_New/upload/nad_press_release_30jan15.pdf