New IIP Shows Demonetisation Slowed Down Indian Manufacturing Growth Big Time

India_textile_fashion_industry_workers

India has a new Index of Industrial Production (IIP). It is bigger and according to economists who track such things, it is better than the previous one. The IIP basically gives growth estimates of three sectors-manufacturing, mining and electricity. The manufacturing sector forms more than three-fourths of the IIP.

The base year for the new IIP has been changed to 2011-2012 from the earlier 2004-2005. This has been done to capture the changes in the industrial sector that have happened over a period of time and “to also align it with the base year of other macroeconomic indicators like the Gross Domestic Product (GDP), Wholesale Price Index (WPI)”.

Like any other index, the IIP tracks various items that make for the manufacturing, mining and electricity sectors. These items need to be changed or relooked at from time to time in order to ensure that the IIP continues to maintain a representativeness of the manufacturing, mining and electricity sectors in particular and the industry as a whole in general.

The new IIP has a total of 809 items in the manufacturing sector. The earlier one had 620. While, the number of items which constitute the manufacturing part of IIP have gone up, 124 items have been removed as well. These include items like gutka, calculators and colour TV picture tubes. Items like cement clinkers, medical and surgical accessories, refined palm oil etc., have been added. Along similar lines, the electricity sector now includes data from the renewable energy sector as well.

Over and above this, there has been an increase in number of factories in panel for reporting data and closed ones have been removed. All in all, these steps have been taken in order to ensure that the new IIP is a better representation of industry than the old one was.

Given that, items that constitute IIP have change majorly, it is not surprising that the growth figures of IIP have changed as well. Take a look at Figure 1. It plots both the new IIP and the old IIP growth rates over the last half decade, April 2012 onwards.

Figure 1: 

One look at Figure 1 is enough to tell us that the old IIP and new IIP are different beasts altogether, though both are very volatile. Now take at data from March 2013. As per the old IIP series, the growth was at 3.5 per cent. The new IIP series puts the growth at 15.1 per cent. That’s how different the old and the new IIP are.

In fact, as per the new IIP, the industrial growth stood at 3.3 per cent in 2014-2015, the last year of the Congress led UPA government. As per the old IIP the growth had stood at – 0.1 per cent. Hence, we can conclude that the state of the industry in the last year of the Congress government wasn’t as bad as it seemed at that point of time. It’s just that the old IIP may have no longer remained a good representation of the Indian industry.

In fact, the new IIP shows that industrial growth picked up in 2016-2017, the last financial year. The growth stood at 5.1 per cent. As per the old IIP the industrial growth was at 0.6 per cent, during the course of the year. What this also tells us is that the two IIPs are as different as chalk and cheese.

There is an interesting trend that the new IIP catches on to in the manufacturing sector. Manufacturing makes up for 77.6 per cent of the new IIP as against the 75.5 per cent in the old one. Take a look at Table 1.

Table 1: Manufacturing Growth

Period Manufacturing Growth(in %)
Dec 2012 to Mar 2013 9.4
Dec 2013 to Mar 2014 3.7
Dec 2014 to Mar 2015 3.2
Dec 2015 to Mar 2016 4.9
Dec 2016 to Mar 2017 1.6

Source: Centre for Monitoring Indian Economy.

The manufacturing growth between December 2016 and March 2017 stood at 1.6 per cent. This has been the slowest in comparison to the same period in previous years. Why is this the case? The one word answer to this is demonetisation. The Modi government announced demonetisation of Rs 500 and Rs 1,000 notes on November 8, 2016, and sent the economy into a tailspin. The interesting thing is that the average manufacturing growth between April 2016 and October 2016 had stood at 6.9 per cent. This signalled the revival of the manufacturing sector after having grown by around 3 per cent in 2015-2016 and 3.8 per cent in 2013-2014.

Demonetisation managed to scuttle that revival in this growth. Also, it is worth pointing out here that the IIP data is collected from “entities in the organised sector units registered under the Factories Act, 1948”. This means that the unorganised sector is not covered. And as I have often written in the past, the impact of demonetisation on the unorganised sector has been far greater.

Up until now, the government has refused to admit that demonetisation has had a negative impact on the economy (Subscription Required). I guess it’s time it looked at the new IIP numbers to realise the obvious.

(The column was originally published in Equitymaster on May 16, 2017)

Why zero inflation is bad for the economy

zero

Vivek Kaul

The wholesale price index (WPI) for the month of November 2014 was flat. Hence, wholesale prices in November 2014 were at the same level as November 2013.
For an economy that has been batting a very high rate of inflation, an inflation of zero percent, should come as a welcome relief. Only if things were as simple as that.
The devil, as they say, lies in the detail. The question to ask here is why is inflation at zero percent?
The price of food products which make up for around 14.34% of the index rose by just 0.63% in comparison to the last year. Onion prices are down 56.3% from last year. Vegetable prices are down 28.6%. Nevertheless, potato prices have gone up by 34.1%.
But this seems like a temporary trend and may soon reverse. The kharif (summer-autumn) season has seen a decline in production of most crops, due to a poor south-west monsoon this year. Over and above this, recent data from the ministry of agriculture points out that the total area coverage under rabi (winter) crops has fallen. It stood at 470.74 lakh hectares while last year’s sowing area was at 503.66 lakh hectares.
Several important
rabi crops have seen a fall in total sowing area. As the ministry of agriculture press release points out: “Wheat`s sowing area is at 241.91 lakh hectares as compared to last year’s 251.32 lakh hectares…The area under sowing of Gram is at 71.51 lakh hectares this year while the last year’s figure was 85.75 lakh hectares. Area coverage under Total Pulses is at 111.13 lakh hectares while the last year’s sowing area coverage was 124.78 lakh hectares.”
And this is a worrying sign, which could push food prices up in the months to come.
Another major reason for zero inflation in November is a fall in oil prices. Petrol and diesel prices have fallen by around 10% and 3% respectively in comparison to November 2013. In fact, the government increased the excise duty on diesel and petrol twice since October, else inflation as measured by the wholesale price index would have been negative for the month of November 2014.
Falling food and fuel prices are good news because they leave more money in the hands of people. Nevertheless, its in the third and the biggest component of the wholesale price index where the bad news lies.
Manufactured products make for around 65% of the wholesale price index. The inflation in this case was minus 0.3% in November 2014, in comparison to October 2014. Since the beginning of this financial year, the manufactured products inflation has been at 0.8%. And in comparison to November 2013, the number is a little over 2%.
What this tells us is that manufactured products inflation has more or less collapsed. A major reason for the same lies in the fact that people are going slow on buying goods. This becomes clear from index of industrial production(IIP) for the month of October 2014, when looked from the use based point of view. IIP is a measure of industrial activity in the country.
The consumer goods number is down 18.6% from October 2013. It is down 6.3% since the beginning of this financial year. The consumer durables number is down 35.2% from last year and 16% from the beginning of this financial year. And finally, the consumer non-durables number is down by 4.3% from last year and up only 1% from the beginning of this financial year.
What this clearly tells us is that despite falling inflation, people still haven’t come out with their shopping bags.  When consumers are going slow on purchasing goods, it makes no sense for businesses to manufacture them. Also, that explains why manufactured goods inflation has almost been flat through this financial year.
This is a worrying sign. If consumer spending is slower than usual, businesses suffer and this translates into slower economic growth. Further, businesses have no incentive to expand also in this scenario. The capital goods number in the IIP is down 2.3% from last year.
So why are consumers not spending? A possible explanation lies in the fact that inflationary expectations (or the expectations that consumers have of what future inflation is likely to be) continue to be high. The wounds of high inflation are still to go away. People need inflation to stay low for a while, before they will really start believing that low inflation is here to stay. As and when that happens, they will come out with their shopping bags all over again.
As per the previous Reserve Bank of India’s Inflation Expectations Survey of Households, the inflationary expectations over the next three months and one year are at 14.6 percent and 16 percent. In March 2014, the numbers were at 12.9 percent and 15.3 percent.
Interestingly, today the RBI put
out a press release stating that the October to December 2014 quarterly round of the inflationary expectations survey was being launched. Once the data for this survey comes in, we will come to know where the latest inflationary expectations stand.
If inflationary expectations fall, then it is likely that the consumer demand will improve and the broader economy will pick up as well. If inflationary expectations fall to very low levels, then consumers might also start postponing purchases, in the hope of getting a better deal. Whether that happens, we don’t know as yet. Until then, we will have to wait and watch.

The article originally appeared on www.FirstBiz.com on Dec 15, 2014

(Vivek Kaul is the writer of the Easy Money trilogy. He tweets @kaul_vivek)

Yes, inflation is lower, but Arun Jaitley should not be happy about it just yet

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010Vivek Kaul

The wholesale price index (WPI) inflation for September 2014 came in at a five year low of 2.38%. In a statement released yesterday, after the WPI inflation number was published, the finance minister Arun Jaitley said “It is heartening to note that we have been able to bring food inflation under control. Growth in vegetable and protein prices that have been contributing to the recent increase in inflation rates have shrunk thanks to the steps taken by the government. We are committed to continuing reforms in food markets that will improve supply responses and keep inflation low and stable.”
Food inflation, which forms around 14.34% of the wholesale sale price index, stood at 3.52% during September 2014. In comparison it had stood at 18.68% during September 2013. The price of the politically sensitive onion crashed by 58% in September 2014, in comparison to a year earlier. Vegetable prices have fallen by 14.98%. But potato prices rose by 90.23% during the same period. Fruit prices were up by 20.95% and milk by 11.55%. Nevertheless, the overall rise in food prices has slowed considerably in comparison to the last few years.
The government deserves some credit for this, but there are clearly other factors at work as well. The global food prices have also fallen in the recent past.
The Food and Agricultural Organization of the United Nations said in a recent statement that the “the decline” in food prices “in September marks the longest period of continuous falls in the value of the index since the late 1990s.” Food prices in September 2014 fell by 2.5% in comparison to August 2014 and 6% in comparison to September 2013. Hence, global food prices have also had an impact.
While Jaitley is quick in taking trading for controlling inflation, he offers no explanation for the low manufacturing products inflation. Manufacturing products make up 64.97% of the wholesale price index. Inflation in this group was at a low 2.84% during September 2014. This was not significantly different from the 2.36% inflation that prevailed during the same period last year.
A low manufacturing products inflation is a reflection of the low consumer demand that has been prevailing in India for a while now. For more than five years, food inflation in India was at very high. High inflation ate into the incomes of people and led to a scenario where their expenditure went up faster than their income. This led to a cut down on expenditure which is not immediately necessary.
As I have often pointed out in the past, half of the expenditure of an average household in India is on food. In case of the poor it is 60% (NSSO 2011)
When people cut down on expenditure, the demand for manufactured products falls as well. This lack of demand is also visible in the index of industrial production(IIP) number, which rose by a minuscule 0.4% in August 2014 in comparison to August 2013. The IIP is a measure of industrial activity in the country.
Nevertheless high inflation can no longer be an explanation for lack of consumer demand. Inflation has constantly been falling over the last few months. So why isn’t the Indian consumer in the mood to get his shopping bags out again? One possible explanation is that despite falling inflation, inflationary expectations still remain high (or the expectations that consumers have of what future inflation is likely to be). Or as economists like to put it the inflationary expectations have become firmly anchored.
A good data point to look at is the
Reserve Bank of India’s Inflation Expectations Survey of Households: September – 2014 which was a survey of 4,933 urban households across 16 cities, and which captures the inflation expectations for the next three-month and the next one-year period. The median inflation expectations over the next three months and one year are at 14.6% and 16%. In March 2014, the numbers were at 12.9% and 15.3%. Hence, inflationary expectations have risen since the beginning of this financial year.
The RBI points out that these inflationary expectations “are based on their individual consumption baskets and hence these rates should not be considered as benchmark of official measure of inflation.” Nevertheless, “the households’ inflation expectations provide useful directional information on near-term inflationary pressures.”
What these numbers clearly tell us is that the Indian consumer is still not convinced about the fact that low inflation is here to stay. As the RBI Survey points out “The survey shows that housewives and retired persons have marginally higher level of inflation expectations based on median inflation rates…About 72.8 per cent (72.0 per cent in the last round) and 78.7 per cent (74.0 per cent in the last round) of respondents expect double digit inflation rates for three-month ahead and one-year ahead period, respectively.”
These expectations have ensured that the low consumer demand scenario has continued despite a fall in inflation. This also explains why many analysts are downgrading the economic growth expectations for this financial year.
JP Morgan recently predicted an economic growth of only 5.1%, instead of the earlier 5.3%.
The only way the Indian consumer will get his shopping bags out again is if inflation continues to stay low for a while. Whether that happens remains to be seen. Some economists are still not convinced that the spiral of food inflation has been broken. They feel only after November 2014, the real picture on the food inflation front will start to emerge, once the impact of the below normal monsoons on summer crops becomes more visible.

The article originally appeared on www.FirstBiz.com on Oct 16, 2014

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

Lessons for govt from a Mumbai taxi driver: Why inflation is killing growth

KONICA MINOLTA DIGITAL CAMERA

Vivek Kaul

Sometimes it takes a small nudge to start doing what might later seem obvious. A few months back I happened to read Nicholas Epley’s Mindwise—How we understand what others Think, Believe, Feel and Want. Epley is a professor of behavioural science at the University of Chicago’s Booth School of Business.
In this book Epley writes that “isolating activities like commuting are some of the least pleasant of any day.” “Not only is isolation unpleasant, it is bad for your health as well.” Hence, he goes on to suggest that it always makes sense to communicate with your fellow commuters or in case of taxicabs, the drivers.
“In fact, the positive effect of talking to one’s taxi driver is particularly large. Perhaps because taxi drivers come from interesting and varied backgrounds, they seem to make especially pleasant conversational partners, at least for the length of your ride…The stories I get are fascinating, the conversations are almost always interesting, and my experience is consistently better than if I had simply stared out of the window instead…Your ability to engage with minds of others is one of your brain’s greatest abilities. You’ll be happier if you actually use it,” writes Epley.
After reading this book I have “nudged” myself in the direction of trying to have a conversation with the taxi-driver, every time I use a taxicab. Late last night I was coming back home after having dinner and starting talking to the driver. Over the last few weeks the conversation usually starts around the recent increase of the minimum cab fare in Mumbai from Rs 19 to Rs 21. And then it goes off in different directions.
Yesterday night was not different from the usual except for the way the driver reacted. He was of the opinion that the decision to increase the minimum fare from Rs 19 to Rs 21 was a stupid one and that the taxi union hadn’t been doing its job properly. The response intrigued me, given that this was the first time I came across someone who did not seem to be happy at the prospect of a higher income in these inflationary times.
I asked him to explain in detail what he meant. “Main to kehta hoon minimum pandrah rupaiye kar dena chahiye, (I think the minimum taxi fare should be reduced to Rs 15),” he immediately responded. This intrigued me further. “Log taxi le nahi rahe hain. Kaafi samay khaali baithe rehna padta hai (People are not taking taxis and for long periods of time I am just sitting idle),” he continued.
And then he went on to explain that at a lower fare he would get more customers, wouldn’t have to sit idle for long periods of time during the day and would in the process end up making more money, even though the amount of money he would make per kilometre would be lower. Sometimes wisdom strikes you at the most unlikely of places. Last night I had that kind of a experience.
High inflation has been the bane of this country over the last five years. And that has hit all kinds of people including the taxi-driver I was talking to last night. When fares are raised, it means a higher price for hiring a cab for the end consumer. And he or she is not always ready to pay for that. Hence, an increase in taxi fare, which is basically inflation for the end consumer, leads to loss of business for the taxi-driver.
The way it works for the taxi-driver at the individual level, also works for the society as whole at a much broader level. As prices rise, people cut down on the consumption of non-essentials. Due to high inflation people have had to spend more money on meeting daily expenditure. Food inflation in particular has been greater than 10% over the last few years, and has only recently started to come down a little.
Given this, people have been postponing all other expenditure and that has had an impact on economic growth. Anyone, with a basic understanding of economics knows that one man’s spending is another man’s income, at the end of the day. When consumers are going slow on purchasing goods, it makes no sense for businesses to manufacture them.

This is reflected in the index of industrial production, which is a measure of the industrial activity within the country. Numbers released yesterday by the Central Statistics Office showed that for the month of July 2014, the index of industrial production grew by a minuscule 0.5% in comparison to July 2013. This was largely on account of a slowdown in manufacturing, which forms nearly three-fourths of the index of industrial production. It contracted by -1%. Many sectors within manufacturing like tobacco, apparels, paper and paper products, communication, publishing, furniture etc, contracted majorly.
This is worrying given that the expansion of the manufacturing sector remains India’s best bet to create jobs at a fast pace, for its semi-skilled workforce. And manufacturing cannot be turned around unless inflation is brought under control, so that consumer demand revives, and in turn encourages businesses to increase production of goods. Interestingly, August 2014 saw a major revival in car sales with sales going up by more than 15%.
Along with the index of industrial production, the Central Statistics Office also released the consumer price inflation number, yesterday. Inflation in August 2014 stood at 7.8%. This was a tad lower in comparison to the inflation in July 2014, which was at 7.96%. The inflation in July 2013 had stood at 9.52%.
While this is clearly good news, the worrying bit is that food inflation continues to remain high at 9.42%. In July 2014 the number had stood at 9.36%. In August last year, the number had stood at 11.11%. “In the case of food articles, price pressures were seen building up in pulses, condiments & spices and milk & milk products. Inflation in each of these categories has been rising for the last 3 months,” Crisil Research pointed out in a research note yesterday.
As I have often pointed out in the past, half of the expenditure of an average household in India is on food. In case of the poor it is 60%. If consumer demand is to be revived then food inflation needs to be brought under control.
Analysts believe that consumer price inflation will continue to fall in the months to come. A major reason for this is the fall in global oil prices. “A significant decline in petrol prices (Rs 5.4 per litre since July in Mumbai) due to lower crude oil prices globally, is also likely to have contributed to the downward price pressures in transport & communication. We expect this to continue going forward as no further hike in diesel prices is expected as long as crude oil prices stay at current levels,” Crisil Research points out.
On the flip side, a weak monsoon has led to the build up of “inflationary expectations” (or the expectations that consumers have of what future inflation is likely to be). And this could play a spoiler in reviving consumer demand.
In the long run, other than bringing down inflation the government needs to carry out structural reforms in order to revive Indian manufacturing. As Crisil Research points out “Incremental policy measures and bureaucratic improvements that the new government has taken in its first 100 days to improve the ease of doing business, has had a positive impact on business sentiments. However, it will take some time for these to translate into growth. While these are critical to lift growth in the short-term, the government needs to move forward with structural policy reforms such as implementation of GST (Goods and services tax), easing labour laws, rationalisation of fiscal subsidies, and amendment of land acquisition norms, to maintain the growth momentum beyond this year.” And that is easier said than done.

The article originally appeared on www.FirstBiz.com on Sep 13, 2014

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

How UPA turned NDA’s economic growth into shambles

upaVivek Kaul 

In both love and war, it makes sense to hit where it hurts the most.
The war for the next Lok Sabha elections is currently on. And there is no love lost between the two main parties, the Congress and the Bhartiya Janata Party (BJP).
The BJP today hit out at the economic performance of the Congress led United Progressive Alliance government, over the last ten years.
Politically, this makes immense sense given the bad state the economy is in currently. Economic growth as measured by the growth in gross domestic product (GDP) is down to less than 5%. The GDP grew by 4.7% between October and December 2013.
The rate of inflation as measured by the consumer price index had been greater than 10% for a while and has only recently come below 10%. The consumer price inflation for February 2014 came in at 8.1%.
Industrial activity as measured by the index of industrial production (IIP) was flat in January 2014, after falling for a while. The overall index grew by just 0.1% during January 2014. Manufacturing which forms a little over 75% of the index fell by 0.7% during January 2014, in comparison to January 2013. This primarily is on account of the slowdown in consumer demand.
People have been going slow on spending money because of high inflation. This has led to a scenario where they have had to spend more money on meeting daily expenditure. Retail inflation in general and food inflation in particular has been greater than 10% over the last few years, and has only recently started to come down. Given this, people have been postponing all other expenditure and that has had an impact on economic growth. Anyone, with a basic understanding of economics knows that one man’s spending is another man’s income, at the end of the day. When consumers are going slow on purchasing goods, it makes no sense for businesses to manufacture them. When we look at the IIP from the use based point of view it tells us that consumer durables (fridges, ACs, televisions,computers, cars etc) are down by 8.3% in comparison to January 2013. The overall consumer goods sector is down by 0.6%.
This slowdown in consumer demand was also reflected in the gross domestic product(GDP) numbers from the expenditure point of view. Between October and December 2013, the personal final consumption expenditure(PFCE) rose by just 2.6% to Rs 9,81,463 crore in comparison to September to December 2012. In comparison, during the period October to December 2012, the PFCE had grown by 5.1%.
The lack of demand along with a host of other reasons also means that the investment climate for businesses is not really great. This is reflected in the lack of capital goods growth, which was down by 4.2% during January 2014. If one goes beyond this theoretical constructs and looks at real numbers like car sales, they also tell us that the Indian economy is not in a good shape as of now. Smriti Irani,
a television actress turned BJP politician summarized the situation very well, when she said “Today, as the Congress-led UPA leaves office, it leaves behind a legacy of an economy which has been mismanaged.” Yashwant Sinha, former finance minister and senior BJP leader, went a step ahead and said that “an investment crisis” and “a crisis of confidence in the economy”. The Congress party is likely to react to this attack by the BJP by following the conventional line that it has always followed. The party is most likely to say that India has done much better under the UPA than the BJP led National Democratic Alliance (NDA).
Prima facie, there is nothing wrong with the argument. Between 1998-99 and 2003-04, when NDA was in power, the average GDP growth rate was at 6% per year. Between 2004-05 and 2012-2013, when the UPA has been in power the average rate of growth has been at 7.9% per year. If one takes into account, the GDP growth rate for this financial year i.e. 2013-2014, this rate of growth will be lower than 7.9%,
but still higher than the 6% per year achieved during NDA rule.
But it is worth remembering here that the economy is not like a James Bond movie, where the storyline of one movie has very little connection with the storyline of the next. An economy is continuous in that sense.
The rate of economic growth in 2003, a few months before the UPA came to power, was at 7.9%. The rate of inflation was at 3.8%. In fact, the rate of inflation during the entire NDA term averaged at 4.8%, whereas during the first nine years of UPA regime between 2004-2005 and 2012-2013, it has averaged at 6.7%.
If we take the rate of inflation during this financial year into account the number is bound to be higher. The index of industrial product, a measure of the industrial activity in the country,
was growing at 8% in early 2004. Currently it is more or less flat.
The fiscal deficit for the year 2003-2004
came in at 4.5% of the GDP. The fiscal deficit for the year 2012-2013 was at 4.9% of the GDP. The fiscal deficit for the year 2013-2014 has been projected to be at 4.6% of the GDP. Fiscal deficit is the difference between what a government earns and what it spends.
As I have explained in the past, this number has been achieved through accounting shenanigans and does not reflect the real state of government accounts. The expenditure and thus the fiscal deficit of the government
is understated to the extent of Rs 2,00,000 crore. This is not to say that there wouldn’t have been any accounting shenanigans under the NDA rule, but they would have been nowhere near the present level.
The broader point here is that the NDA had left the economy in a reasonable good shape on which the UPA could build. And the first few years of growth under the UPA rule came because of this. In simple English, unlike James Bond movies, growth under the UPA cannot be separated totally from the growth under the NDA. The growth under UPA fed on the earlier growth under the NDA.
That’s one point. The second point that needs to be brought out here is that the massive economic growth during 2009 and 2010,
when India grew by 8.5% and 10.5% respectively, was primarily on account of the government expanding its expenditure rapidly.
The government expenditure during 2007-2008 had stood at Rs 7,12,671 crore. This has since rapidly grown by 123% and stood at Rs 15,90,434 crore for 2013-2014. While this rapid rise in government expenditure ensured that India grew at a very rapid rate when the world at large wasn’t, it has since led to substantial economic problems. During the period Atal Bihari Vajpayee was the Prime Minister of India, the government expenditure grew by 68% and stood at Rs 4,71,368 crore during 2003-2004.
This rapid rise in government expenditure in the last few years has led to loads of problems like high interest rates and inflation, as an increase in government spending has led to an increase in demand without matched by an increase in production.

As Ruchir Sharma put it in a December 2013 piece in the Financial Times
“With consumer prices rising at an average annual pace of 10 per cent during the past five years, India has never had inflation so high for so long nor at such an unlikely time…Historically, its inflation was lower than the emerging-market average, but it is now double the average. For decades India’s ranking among emerging markets by inflation rate had hovered in the mid-60s, but lately it has plunged to 142nd out of 153.”
In fact, if one looks at the incremental capital output ratio, it throws up a scary picture.
Swanand Kelkar and Amay Hattangadi in a December 2013 article in the Mint wrote “the Incremental Capital Output Ratio (ICOR)…measures the incremental amount of capital required to generate output or GDP. From FY2004 till FY2011, India’s ICOR hovered around the 4 mark, i.e. it required four units of investment to generate one unit of output. Over the last two years, this number has increased with the latest reading at 6.6 for FY2013.” Currently, the number stands at 7.
This, in turn, has led to a massive fall in investment. As Chetan Ahya and Upasna Chachra or Morgan Stanley write in a recent research report titled
Five Key Reforms to Fix India’s Growth Problem and dated March 24, 2014, “Public and private investment fell from the peak of 26.2% of GDP in F2008 to 17.3% in F2013. Indeed, private investment CAGR[compounded annual growth rate] was just 1.4% between F2008 to F2013 vs. 43% in the preceding five years.”
What all this clearly tells us is that the economic growth during the UPA rule fed on the economic growth during the NDA rule. The UPA has left the economy in shambles, and the government that takes over, will have a tough time turning it around.

The article appeared originally on www.firstpost.com on March 30, 2014

(Vivek Kaul is a writer. He tweets @kaul_vivek) 

Inflation over 10%: India needs a Rajiv Gandhi Inflation Control Yojana

RAJIV_158869fVivek Kaul

But Ma I want to become an economist,” said the son.
An economist?” asked the mother. “Why in the world do you want to do that? You are already a politician.”
“Aren’t they kind of cool?” asked the son.
Care to explain?”
“Look at Rajan at the Reserve Bank, the women are just swooning over him,” said the son. “Mrs De even wrote a column on how hot he is.”
“Yes. But do you remember the one before Rajan? No woman would have fallen for him, even though he did try and learn the salsa dance,” said the mother, puncturing the bubble.
Ah, trust you to spoil the fun as always,” said the son. “I was so looking forward to the women swooning over me.”
“Aren’t they already,” replied the mother, trying to do some damage control. “Look at the number of responses we have got to that advertisement we placed on 
globalshadi.com. Wanted a fair, convent educated, homely girl who respects her elders and can cook.”
He He.”
“But why do you suddenly want to become an economist?”
Oh, every other day the media talks about inflation, index of industrial production and what not,” said the son. “And I don’t understand any of it.”
“But you don’t have to understand all that 
beta,” said the mother. “What else do we have mauni baba for?”
“Oh yeah, 
mauni baba is an economist, I had almost forgotten, given that he rarely speaks these days.”
“Yes. Let me just call him for you.”
Five minutes later, 
mauni baba is hurried in through the door.
What happened madam?” he asked. “Hope all is well.”
“Nothing really,” she replied. “My son here just had a few small doubts. I’ll leave the two of you alone to have a man to man talk.”
Saying this, the mother left the room and the son decided to brush up on his economics.
“You know sir, the index of industrial production(IIP) number came in earlier in the day and it rose by 2%.”
“Yes, it did 
beta. What do you want to know about it?” asked mauni baba rather lovingly.
“Why is the number so low?”
“We are going through tough times. You know the IIP essentially measures the level of the industrial activity in the country.”
“But isn’t 2% very low?”
“Yes it is. In fact, if we look at just manufacturing which forms 75% of the IIP, it grew by only 0.6%.”
“Oh, so low?”
“Yes,” said 
mauni baba. “The industrial activity in the country has come to a standstill.”
“But why is that?” asked the son.
People are not buying as many cars as they were. Neither are they buying consumer durables, which fell by 10% during September 2013, in comparison to the same period last year,” said mauni baba, without answering the question.
“But what is the problem?”
“The problem is inflation. The consumer price inflation for the month of October 2013 was at 10.09%.”
“Oh, yes I saw that on television,” said the son. “They keep going on and on about onion and tomato prices going up. I am so bored of watching that.”
“Yes, you should watch Star World Premiere HD.”
“And if they can’t eat onions and tomatoes, why don’t they try pasta and pizza,” said the son. “Or even caviar.”
“Doesn’t go down well with the Indian taste, you know,” said 
mauni baba. “We need our dal, rice and rasam.”
So you were telling me something about inflation.”
“Yes. So inflation is greater than 10%. Food inflation is higher. Consumer price inflation number suggests that food inflation is at 12.56%. As per the wholesale price inflation number, the food inflation is at 18.4%.”
“And what does that mean?”
“Half of the expenditure of an average Indian household goes towards food. Given the rate at which food prices are rising, more and more money is being spent on paying for food and other essentials.”
“Oh.”
“Hence, there is very little money left to buy non essential items like consumer durables and cars. And this leads to low industrial activity. When the demand falls, so does the supply.”
“But where does this inflation come from?” asked the son. “Why can’t we just stop it by launching a RGICLY?”
“RGICLY?” asked 
mauni baba. “What is that?”
“Rajiv Gandhi Inflation Control Yojana,” explained the son, very seriously.
“We can try, we can try,” said 
mauni baba going with the flow.
“But where does this inflation come from?”
Well, over the last few years, the government has increased its expenditure. All this money being spent lands up in the hands of people. And they go out and spend that money. When a greater amount of money chases the same amount of goods and services, prices rise. Food prices particularly work along these lines.”
“Ah. So basically we need to grow more onions and tomatoes.”
“Yes, yes,” said 
mauni baba. Its an opportune time to launch IGKTUY.”
“IGKTUY?” asked, the confused son. “What is that?”
“Indira Gandhi Kaandha Tamatar Ugaao Yojana.”
“Kaandha why not just Pyaaz or Pyaaj?” asked the son. “No one understands Kaandha in North India.”
“Oh, I just though IGK comes in a sequence and thus, sounds better,” 
mauni baba explained.
“IGK or IJK?” asked the son.
“Oh, never mind.”
“But now I get it. Basically inflation is killing growth,” said the son.
“Yes, in fact there is even a term for it.”
“And what is that?”
“Stagflation, which is a combination of stagnation and inflation.”
“Ah, stagflation,” said the son. “I quite like the term. Reminds me of all the stag parties I used to attend.”
“So can I go now?” asked 
mauni baba.
Wait, wait, wait,” said the son. “I just understood what you were really trying to say.”
“What?”
“That, mother is essentially responsible for everything. She was the one who got the government to increase its expenditure and spend much more than it earned, which is what finally led to inflation.”
“But I didn’t say that,” 
mauni baba protested.
You did not. But that was what you meant,” said a confident son. “Mother won’t like listening to this.”
“Ah. You are making the same mistake as other people.”
“What?”
“They don’t call me 
mauni baba just for nothing,” said mauni baba and walked out confidently from the room.
The mother soon came back into the room and the son told her everything. As he finished, the mother burst out into a hearty laugh.
You know, this is quite unbelievable,” she said. “You want me to believe that for the last half an hour mauni baba was speaking and you were listening?”

The article originally appeared on www.firstpost.com on November 13, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek)

Why cutting interest rates will have little impact on industrial production

 iip

Vivek Kaul 

The index of industrial production (IIP), a measure of the industrial activity in the country, grew by a meagre 2% in April 2013, in comparison to the same period during 2012. The index was expected to grow by around 2.4% (source: India: Weak growth and sticky retail inflation. Sonal Varma and Aman Mohunta, Nomura). In the month of March 2013, the index had grown by 3.4%.
This slowdown of industrial growth reflected in the low IIP number is expected 
to lead to call for a cut in the repo rate by the Reserve Bank of India(RBI). Everyone from the Finance Minister to business lobbies to business leaders are expected to join the chorus. The logic is that at lower interest rates people will borrow and spend more, so will businesses. This will create demand and thus help revive overall industrial activity and in turn the overall economy. Repo rate is the interest rate at which the RBI lends to banks.
Naina Lal Kidwai, President of Federation of Indian Chamber of Commerce and Industry, 
told The Economic Times “Consumer durables segment registered one of its highest falls since 2009 and calls for moderation in interest rates to stimulate demand.”
Similar statements were made by Presidents of CII and ASSOCHAM, the other two industry bodies.
But there are several reasons why a cut in interest rate by the RBI may not work.
During the last one year the banks have lent around Rs 83 out of every Rs 100 that they have borrowed. Ideally they should not be lending more than Rs 70 out of every Rs 100 that they borrow. This is because banks need to maintain a cash reserve ratio of 4% i.e. for every Rs 100 that they raise as a deposit, they need to deposit Rs 4 with the RBI.
Banks also need to maintain a statutory liquidity ratio of 23%. For every Rs 100 that banks raise as a deposit, Rs 23 needs to be compulsorily invested in government securities. Government securities are essentially bonds issued by the central and the state governments to borrow money to make up for the difference between what they earn and what they spend.
What this means is that for every Rs 100 that banks raises as a deposit, Rs 27 gets taken out of the equation straight away (Rs 23 as SLR and Rs 4 as CRR). That leaves around Rs 73 to lend (Rs 100 – Rs 27). So in a healthy situation a bank shouldn’t be lending more than Rs 70 out of every Rs 100 that it raises as a deposit.
But as we see above, banks have lent Rs 83 out of every Rs 100 that they have raised as a deposit during the last one year. This means they haven’t been able to raise deposits as fast as they gone around lending money. Hence, interest rates on deposits cannot be brought down because banks need to correct this mismatch between deposits and loans, by raising deposits at a faster rate.
So even if the RBI cuts the repo rate, the question is will the banks be able to match that cut? As explained above that seems unlikely.
But for the sake of argument lets assume that the RBI cuts the repo rate and the finance ministry is at least able to push the public sector banks to cut interest rates. And if public sector banks cut interest rates on loans, chances are even the private sector banks may have to match them to remain competitive.
This may or may not happen, and at the cost of reiterating let me state that I am only trying to make a point here. Lets consider the car industry, which is a very good representation of overall industrial activity. As TN Ninan wrote in a 
column in Business Standard in January 2013, “The car industry is a key economic marker, because of its unmatched backward linkages – to component manufacturers, tyre companies, steel producers, battery makers, glass manufacturers, paint companies, and so on – and forward linkages to energy demand, sales and servicing outlets, et al.”
As is well known by now car sales have been slowing down over the last seven months. 
In the month of May 2013, car sales were down by 12.3%. When car sales are down it obviously means that car companies will report lower sales and profits, unless they manage to cut costs dramatically, which is not possible beyond a point. What it also means is that car companies will not produce as many cars as they can given their production capacity. As has been reported on Firstpost, Maruti, India’s largest car maker, did not make any cars on June 7, 2013. This for a company which makes 5000 cars every day.
When a car-maker does not make cars it obviously slows down industrial activity. It also slows down the production of every company which provides inputs to a car company. This ranges everyone from steel companies to paint companies to tyre companies to battery manufacturers to steering manufacturers and so on. And this in turn slows-down the overall industrial activity.
To revive industrial activity, hence it is important that more cars are sold. And more cars will be sold when loans are available at low interest rates, goes the logic. But lets try and understand why this logic doesn’t work hold.
Lets consider the case of an individual who borrows Rs 4 lakh to buy a car at an interest rate of 12% repayable over a period of 7 years. The equated monthly instalment for this works out to Rs 7061. Lets say the bank is able to cut the interest rate by 0.5% to 11.5%. In this case the EMI works out to Rs 6955, or Rs 106 lower.
Even if the bank cuts interest rates by 1%, the EMI goes down by Rs 212 only.
If we consider a lower repayment period of 5 years, an interest rate cut of 0.5% leads to an EMI cut of Rs 100. An interest rate cut of 1% leads to an EMI cut of Rs 200.
So the bottomline is that an individual will not go and buy a car just because the EMI has come down by Rs 100 or Rs 200. There is something else at work here. And the logic that people are not buying cars because interest rates are high just doesn’t hold.
As RC Bhargava, a car industry veteran and 
the Chairman of Maruti Suzuki India told Business Standard in a recent interview “In India, over 70 per cent of car purchases are financed by banks. An interest rate reduction of, say, one percentage point doesn’t change a person’s decision of buying or not buying a car…With the uncertainties prevalent today, a consumer does not know what his job would be like after a year – whether or not he will have an incremental income, or even a job.”
So people are not buying cars simply because they are insecure and are not sure whether they will be able to hold on to their jobs in order continue paying their EMIs. And given that they wan’t to avoid the risk of defaulting on their EMIs. Hence, cutting interest rates are in no way going to help kick-start car sales. Also, if the logic of cutting interest rates leading to people buying cars does not hold, there is no question of it working for consumer durables as well, Kidwai’s statemnt notwithstanding.
Real estate is another sector which has strong linkages with other sectors like steel and cement. A cut in interest rates will bring down EMIs significantly on home loans. But even with lower EMIs people are unlikely to buy homes. This is because the cost of homes especially in cities has gone up big time. And even the lower EMIs will be very high for most people. Hence the sector continues to be in a dump and is likely to continue to be in one.
Given this, all the talk about lower interest rates improving the industrial activity and in turn economic growth, is at best just talk, and needs to be taken with a pinch of salt.

 The article originally appeared on http://www.firstpost.com on June 13, 2013 

(Vivek Kaul is a writer. He tweets @kaul_vivek)