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GLOBAL RESEARCH & ANALYTICS

Volume 9 | March 2012

CRISIL IndiaInsights
Economy
Through the India Insights Economy series, we present valuable insights and opinions on key growth parameters for the Indian economy. Our ninth edition highlights the steep growth in government debt burden globally and focuses on Indias fiscal situation.

Credible roadmap for fiscal consolidation imperative

Fiscal stimulus programs, following the global financial crisis, led to an alarming rise in governments' debt burden in many advanced and emerging economies. In India too, the fiscal situation deteriorated sharply. Fiscal deficit, as a percentage of GDP, rose to 6.4% in 200910 from 2.7% in 2007-08. Fiscal consolidation up to 2007-08 was primarily due to higher government revenue collection during the high-growth phase. However, this was not accompanied by any significant expenditure reforms. Hence, stickiness in expenditure and fiscal stimulus-related spending led to the worsening of public finances during the following low-growth phase. Even in 2011-12, the fiscal deficit-to-GDP ratio is expected to overshoot the budgeted target of 4.6% by nearly 1 percentage point. Fiscal imprudence adversely impacts inflation by creating excess demand in the economy. Fiscal inflexibility curtails the economy's growth potential due to the government's inability to increase investment spending, a key growth driver. Deterioration in public finances, if unchecked, can cause substantial economic distress, as is currently the case with Euro-zone economies. Therefore, fiscal tightening through expenditure restraint is of critical importance at this juncture for raising India's medium-term growth prospects.

D eterioration in public
finances, if unchecked, can cause substantial economic distress, as is currently the case with Euro-zone economies.

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GDP
n

GDP growth decelerated to a low of 6.1% in 3Q FY12. Slowing domestic demand growth and faltering global recovery led the industrial sector to grow at 2.6%. Services sector growth remained buoyant at 8.9%. Fixed investment contracted by 0.1% during April-December 2011, falling by 1.2% in 3Q FY12. Government consumption expenditure growth moderated to 4.4% in 3Q FY12. The global economic environment is likely to remain uncertain. We expect GDP in FY13 to grow at 7.0%.

G DP growth slips to 6.1%

in 3Q FY12.

Industrial Production
n

Declining mining and capital goods production, along with a weak manufacturing growth, dragged the industrial growth to 1.8% in December 2011 from 5.9% in the previous month. Manufacturing output grew at 1.8%. Mining output contracted 3.7%, while capital goods output fell by a stark 16.5%. Intermediate goods' output growth also slipped into the negative territory. We expect the weakness in industrial output to continue in 4Q FY12 before beginning to recover in 1Q FY13.

ndustrial growth plunges to 1.8% in December 2011.

Inflation
n

WPI inflation declined to 6.6% in January 2012 from 7.5% in the previous month. Core (non-food manufacturing) inflation declined for the second consecutive month to 6.7%, the lowest in the past 11 months. Food inflation, averaging at 7.2% in the fiscal year so far, is much lower than the 16.7% during the same period last year. Prices of primary food articles fell 0.5% on an annual basis in January. While the impact of past rate hikes on demand slowdown has begun to reflect in the overall inflation, households' inflation expectation continues to remain high. Such high expected inflation will come down only when inflation stabilizes at low levels.

C ore inflation falls below

7.0% in January.

Interest Rate
n

The CRR cuts in January and March 2012 and OMOs conducted by the RBI, coupled with a lower level of government borrowings, helped in softening the yields of the benchmark 10year G-sec. The yield on the benchmark 10-year paper stood at an average of 8.4% in February 2012. Yields of the short-term one-year government bond rose sharply from 8.2% in January and

1 0 year G-sec yields at

8.4% in February.

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averaged at 8.6% in February 2012. Despite RBI's cut in the CRR, liquidity in the system has remained stretched.

Rupee
n

The rupee averaged at 49.2 per US dollar in February. The rupee gained 4.3% against the US dollar in February 2012, compared to a 2.5% gain in the previous month. The rupee was fairly stable, moving in the 48.7-49.7 per dollar range. In February 2012, net foreign institutional investment (FII) surged to $6.5 billion compared to $5.1 billion a month ago. Portfolio inflows that have picked up since January 2012 are likely to remain robust, though volatile. Therefore, we expect the rupee to end March 2013 at around Rs 46.5 per dollar.

R upee gains 4.3% in

February.

Trade
n

India's merchandise exports grew by only 10.1% on a y-o-y basis in January 2012, owing to poor demand in markets abroad. On a cumulative basis, exports registered 23.5% growth in AprilJanuary 2012 compared to the same period in the previous year. Imports rose at a faster pace of 20.3% in January 2012, which resulted in a higher trade deficit of $14.8 billion. The trade deficit swelled almost 43% from January 2011. Slowing exports, combined with rising oil prices and increased imports of gold and silver, are likely to increase the trade deficit further. Growth in exports is likely to slow further due to the weak global outlook and an unfavourable base effect. Imports growth, although will slacken somewhat due to slackening GDP growth, will remain higher than exports growth.

E xport growth remains

muted at 10.1% in January.

Source: CRISIL Research

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