Is the Indian Economy Headed for a V-Shape Recovery?

Thu, 9 Mar Pre-Open

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Recently, the Central Statistics Office (CSO) released the quarterly estimates of India's GDP for the third quarter of 2016-17. As opposed to grim forecasts by the critics of demonetisation, the Indian economy grew at an impressive 7%.

As soon as the estimates were released, optimists celebrated by claiming that this vindicates the government's stance that demonetisation would not slow down growth significantly. The pessimists were quick to question the credibility of the data.

So, the question arises, to celebrate or not to celebrate? As is usually the case in India, the answer lies somewhere in the middle.

While the Reserve Bank of India and the government are backing a sharp V-shaped recovery, the Reserve Bank of India has already signaled an end to its interest rate easing cycle, and with growth set to gather pace, it's likely to boost inflationary pressures in the coming months.

Indian sovereign government bond yields also appear to have bottomed out and are headed higher as analysts expect a likely rate hike in 2018. Expectations of higher rates from an inflation-fighting central bank are also helping the rupee, which has recovered after hitting a record low in November.

Economists say a bumper harvest of summer crops will boost rural incomes. This along with government spending and a recovery in the demand for financial services, should be able to shore up activity in the economy in the coming months.

Also, according to an article in The Economic Times, two thirds of the chief financial officers in Indian companies seem to be optimistic about the future of their business. The growth is expected to see a sharp bounce back due to the pent-up demand post remonetisation, stronger consumption due to larger fiscal gains for the government, wealth redistribution towards poorer households and sharply lower lending rates.

On the other hand, many analysts and rating agencies were skeptical of the economy as they predict a slower turnaround. The financial and real estate sectors, which were among the worst-hit, grew only at 3.1% YoY as compared to 7.6% and 8.7% in the previous two quarters.

The costs have been huge, especially for the informal sector which does the bulk of its transactions in cash. According to an article in The Bloomberg, there is no sign of a turnaround in private investment that has been a drag on growth since late 2015.

Vivek Kaul, editor of Vivek Kaul's Diary has been extremely skeptical of the high private consumption levels during the December quarter. He said:

• Demonetisation essentially rendered 86.4 per cent of the currency in circulation useless overnight. This made consumer transactions very difficult to carry out. While, the government did replace the money rendered useless with new money, but initially only Rs 2,000 notes made it to the financial system. These notes were very difficult to use because people found it difficult to give change, when almost no new Rs 500 notes were available. Hence, they were as good as useless for most of November and December 2016.

In this environment, how private consumption expenditure grew by 10.1%, the second fastest since June 2011, is a question worth asking. You can read the complete article in his diary here.

The future may look bright but pursuing and deepening structural reforms is the way forward.

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