What GDP data say about the state of the economy, its influence on fiscal priorities
The Indian economy is expected to grow by 9.2% in 2021-2022 according to the first advance estimate (FAE), broadly in line with expectations. The survey of professional forecasters, released by the Reserve Bank of India (RBI) in December, had set the median value of GDP growth for that year at 9.5%.
A striking feature of the GDP data is the sharp increase in nominal GDP, which is expected to grow by 17.6% in this fiscal year, far faster than the 14.4% growth the Union budget had assumed. . Double-digit wholesale price inflation and persistently high consumer price inflation have pushed up nominal GDP and added a benefit to tax collections this year.
However, there are three reasons why these advance estimates could change.
First, these estimates are based on the limited information available up to December and typically undergo change when new information becomes available. Second, the emergence of a wild card – the Omicron variant – in this final quarter of the current fiscal year. While we haven’t yet grasped the impact it will have on the overall economy, it has certainly injected some uncertainty into the outlook for the fourth quarter. Third, as the National Statistics Office has pointed out, “the first revised estimates for 2020-2021 (base year), scheduled for publication on 31.01.2022, may also lead to a revision of the growth rates reflected in EAF. “
Experience teaches us that successive waves impact the health sector disproportionately compared to the economy. So even as this Omicron wave unfolds, more vaccinations and learning to live with the virus will lead to more nuanced and less stringent blockages. That said, Omicron will certainly prevent a large recovery base as contact-based services will slack again. Next month’s budget will require a flexible approach to accommodate these uncertainties.
But what do GDP data tell us about the state of the economy that could influence fiscal priorities?
One of the main concerns in terms of the sustainability of growth is weak private consumption demand and fragile consumer confidence. The share of private consumption in GDP has been declining since the pandemic hit, and the latest RBI survey confirms the weakness.
Although consumer sentiment has improved according to this survey, it is still below the level before the pandemic. The level of private consumption is still 2.9% lower than its year before the pandemic. As a result, the ratio of private consumption to GDP fell to 54.7% in 2021-2022, from 55.6% in 2019-20.
Preliminary estimates also show GDP in construction is barely above its pre-pandemic level, while trade, hospitality, tourism and other contact-based services, which are also at high levels. labor-intensive, are lagging behind pre-pandemic levels. Omicron will strike again and delay the normalization of employment in these segments. These activities are largely urban centered and will likely need to be funded from the budget.
Likewise, a recovery in demand for MGNREGA jobs means a lack of rural employment opportunities. In addition, rural wages for agriculture and non-agriculture have remained stable in real terms. The low demand for tractors and motorcycles reflects the weakness of the rural economy. The budget should extend support to rural areas until the situation normalizes.
A revival of consumer demand is also necessary for a general revival of investments.
GDP data shows that investment is doing somewhat better than private consumption, with its share of GDP exceeding 2019-20 levels. But this is largely due to government investments. As the preconditions for a resumption of the private investment cycle are gradually being met, it is too early to call it general. The uncertainty associated with the emergence of Omicron will only further delay private investment decisions.
Next month’s Union budget will therefore need to continue to rely heavily on infrastructure-focused capital spending, which has a higher multiplier effect on the economy and is known to attract private investment. Along with higher allocations, attention should also be paid to improving implementation capacity, as the slack creeps into public investment.
The pandemic has also inflated debt and deficit levels in all countries. India’s debt, estimated by the International Monetary Fund (IMF) at around 90 percent of GDP, is among the highest in the peer group of similarly rated economies.
In the meantime, the normalization of monetary policy has started. The US Federal Reserve (Fed) no longer sees inflation as “transient” and has advanced its normalization schedule. The Fed is now expected to complete its reduction in asset purchases and raise interest rates three times in 2022. This is a significant change from its forecast a few months ago. Combined with concerns about domestic inflation, this can trigger the start of a calibrated rate hike cycle starting as early as April.
Attention will therefore shift to fiscal policy, which must play a supportive role while designing a calibrated reduction of deficits in the medium term. The government’s budgetary position until November 2021 was a little better than expected when the budget was presented. Due to strong tax collection, the deficit in the first eight months of the fiscal year was 46 percent of the annual target this year, up from 135 percent in the same period last year. Spending in the last quarter may increase at a faster rate due to the turmoil caused by Omicron. Despite this, the deficit target of 6.8% of GDP is very much in sight.
The Finance Committee estimated that the public debt / GDP ratio would decrease very gradually, from nearly 90% currently to 85.6% by 2025-2026. The IMF also has a similar prognosis for India’s debt trajectory and expects the budget deficit to GDP to gradually narrow. Interestingly, debt and deficits as a percentage of GDP are expected to remain above their pre-pandemic levels, even by 2025-2026.
I see the upcoming budget crafting a similar budget path of medium-term deficit and debt reduction to be achieved with a mix of revenue and expenditure measures. Here, the credibility of the divestment targets is of greater importance because it will improve the fiscal room for maneuver available to the government to support the economy.
The next budget for the next fiscal year will show us how the government intends to create and use fiscal space.
The author is Chief Economist, CRISIL Ltd