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The Problem with India's Economic Growth is...

Jan 12, 2017

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Around a week back, the ministry of statistics and programme implementation came up with estimates of the gross domestic product(GDP) for 2016-2017. The GDP is expected to grow by 7.1 per cent in comparison to 7.6 per cent in 2015-2016. This estimate does not take the negative impact of demonetisation into account. Once demonetisation is taken into account, the economic growth (as measured by the GDP growth) is likely to be significantly lower than 7.1 per cent. But that is a debate we will leave for another day and right now concentrate on the 7.1 per cent economic growth figure.

A GDP growth rate of 7.1 per cent in a slow-growth world that we live in, is pretty good on the face of it. The International Monetary Fund's World Economic Outlook expects global growth to be at 3.1 per cent in 2016 and 3.4 per cent in 2017. At 7.1 per cent India's economy is growing at a significantly faster rate.

Nevertheless, there are serious problems with this economic growth. Allow me to explain.

The GDP, or the size of any country's economy, can be measured in various ways. One is through estimating the size of various industries. The other way of measuring the GDP is by measuring the different kinds of expenditure. This essentially is the sum of the private consumption expenditure, the government expenditure, investments and the net exports (i.e., exports minus imports).

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Take a look at Figure 1. It essentially plots the gross fixed capital formation as a percentage of real GDP (or GDP which has essentially been adjusted for inflation).

Figure 1:

Gross fixed capital formation is basically a proxy for the private investment happening in the economy.

What does Figure 1 tell us? It tells us very clearly that private investment as a percentage of GDP has been falling over the last five years. It is now down to around 29.08 per cent of the GDP. In fact, in 2015-2016, private investment was at 31.2 per cent of the GDP, from where it is expected to fall to 29.08 per cent of the GDP in 2016-2017. In absolute terms, the gross fixed capital formation or private investment is estimated at Rs 35.35 lakh crore in 2016-17 in comparison to Rs 35.41 lakh crore in 2015-16, down by 0.2 per cent.

A part of this fall has been made up for by an increase in government final consumption expenditure. In real terms, this expenditure is estimated to be at Rs 13.95 lakh crore in 2016-2017. It was at 11.27 lakh crore in 2015-2016. Take a look at Figure 2.

Figure 2:

The government expenditure has jumped from 9.93 per cent of the GDP in 2015-2016 to 11.48 per cent of the GDP in 2016-2017. This is the major reason why the government still expects India to grow at greater than 7 per cent, despite a fall in private investment.

In fact, take a look at Figure 3. It makes for a very interesting reading. It essentially shows what portion of increase in GDP between years comes from an increase in government expenditure.

Figure 3:

So, what does Figure 3 tell us? It tells us that between 2011-2012 and 2012-2013, increase in government expenditure made up for just 1 per cent of the increase in GDP. Along similar lines the increase in government expenditure between 2015-2016 and 2016-2017 will be responsible for around one-third of the increase in GDP. This has been primarily because the government implemented the one rank one pension rule as well as the recommendations of the Seventh Pay Commission.

Now take a look at Figure 4.

If we take government expenditure out of the equation, how does GDP growth look like? The economic growth for 2016-2017 comes in at 5.2 per cent, which is the lowest in half a decade. The new GDP series currently has data only up to 2011-2012. Hence, this analysis is limited due to a lack of data.

What this tells us is that the economic growth in 2016-2017 is likely to come in at 7.1 per cent, primarily because of the government expenditure forming nearly one-third of the incremental GDP.

The trouble is that this way of creating economic growth by the government spending its way out of trouble, cannot continue indefinitely. At the end of the day The government has a limited amount of money at its disposal. If India has to continue growing at greater than 7 per cent, then private sector investment needs to pick up and that doesn't seem to be happening currently due to various reasons.

There are several short-term factors holding private Indian investment back. The capacity utilisation rates of the manufacturing sector continue to remain low. For the period from April to June 2016, the 903 companies surveyed by the Reserve Bank of India reported a capacity utilisation rate of 72.9 per cent. With more than one-fourth of the capacity lying unutilised there is no reason for Indian industry to invest and expand. Over and above this, large sections of Indian industry, especially those operating in the infrastructure space, continue to remain highly indebted to banks.

These and other reasons are holding private investment back. And this is unlikely to change anytime soon. Also, growth in private investment is necessary if jobs are to be created for India's youth who are entering the workforce in a huge number. It is estimated that every month one million Indians enter the workforce. Where are the jobs for them going to come from if private investment as a proportion of the economy continues to shrink?

Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

Disclaimer: The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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7 Responses to "The Problem with India's Economic Growth is..."

Umesh Sharma

Jan 16, 2017

The analysis is practical and points certain areas which need attention.But we must accept a new beginning has been made corrective steps taken the road blocks which hamper economic activities are constantly attended to.We have also to accept that Indian economy cannot exist in seclusion and has to be a part of universal pattern.The factors affecting other economies will have its impact on our system too.Government expenditure as a source of catalyzing economy may not be a welcome choice but it has been created out of removal of inefficiencies would mean that national resources are not stretched.That apart the government expenditure is going to give fillip to private expenditure and together they can create the momentum.As the universal situation improves India will be able to make better use of its strengths.The close grip the present government has on certain vital parameters is going to have a positive impact on future movement of GDP and Indian contribution to world GDP

Like (2)

Akash Sethia

Jan 14, 2017

A couple of words on Mr. satpathy's post here. Probably vegetable prices dipped because of cash crunch as a result of Demonetisation. Should climb back soon. True Government expenditure has increased in infrastructure (through smart city project in your and my city). And that is a good thing for the economy too - no doubt about that.

Vivek on the other hand is making a completely different point that of declining private investment something that the UPA FM also was concerned about. Because real job creation will have to happen there.

My point is this. Both your and his points coexists and are important.

At a macro level the current government has missed many ambitious targets - target for universal electrification missed by a small margin, the road construction rate hasn't picked upto anywhere near the promised 40 km a day by the loud mouth gdkari. In first 7 months of 2016 it achieved just 17% of year's target. In fact this year it has been poorer than the last year of UPA-II. The target for creation of solar energy was increased to a hugely ambitious 100GW by 2020. What did they achieve in 2016-17 till December a 19% of the year's target. Rail minister is unable to unlock any value with small time initiatives of food aps, surge pricing etc but no monetisation of assets as promised. In fact Railways is losing freight revenue faster than he is able to build new ways. With demonetisation and then implementation of GST the short term does not hold any promise.

There are enough reasons to hold the modi government against hard questions on the macro situation.

Like (2)

Phani

Jan 13, 2017

I always wondered why our gdp is growing when jobs aren't growing. Now I understand. Thank you for this information Vivek.

Like (2)

Gautam Satpathy

Jan 12, 2017

Vivek,

Your analysis is interesting reading, but I am beginning to question why I am paying a fee to read your output.

Govt. expenditure is up. Yes. In what areas? Have you looked into those? Taken them into consideration? Will those areas of investment lead to better growth in the near / middle / long future?

Or are you Modi Bashing like most so called "intellectuals".

Last month, in Mumbai, suddenly all vegetables became CHEAP! I had become used to hearing Rs 15/20/25/30 per 250 gram (per pau), and I started seeing vegetables selling for Rs 20 per Kg (Kilogram).

What happened? How did it happen and why did it happen?

I am not an economist nor a BJP lover. I want the best Governance I can get - for the future of my children. And so far I am happy with Modi and his Government. I am seeing results on the ground in Mumbai. I lived in Juhu since 2010 and every year the rains would flood the roads.

Last year I noticed repairs being made to drains in our and other areas. And come the rains there was no flooding!

Why hadn't this been taken up earlier?

Vivek, look deeper. You are skimming the surface like so many other - "Intellectuals!". Or "Idiots" as they are called by the rest of us.

The Digital Age does require you to respond on a daily / hourly basis. BUT I am paying for your OUTPUT. Make sure it is CORRECT and UNBIASED.

Like (1)

KD

Jan 12, 2017

It will only going to get worse before it gets better.

Just look at our miserable condition of India's farmers. Value of farm produce is determined internationally. Most of the foreign farmers have access to cheap diesel and electricity. In India government is heavily taxing diesel and even electricity is very expensive. On the top of that population growth and per capital calorie intake is stagnating. Therefore, this will put downward pressure on prices of farm produce. One of the probable scenario is that the mass movement of population from rural areas to cities in search of job.

Like (1)

Meenal Mamdani

Jan 12, 2017

Most of the job growth comes from small scale enterprises. These should get a push from the improvement in banking like payment banks and ease of transferring money using the mobile number. Will this help raise the GDP?

Like (1)

Vijay Bhandari

Jan 12, 2017

This proves my hypothesis that Rapid Development & and Economic Growth are just a private extortion dream being pursued by current set of Governments and their advising Economists. For the common man who does not understand modern day economics this is a MIRAGE perpetuated by the Government and the politicians to continuously suck out their regular FEED at the expense of the public they govern.

Like (1)
  
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