GS Paper III

News Excerpt

In a recent research note, economists at Morgan Stanley, which is one of the biggest and most influential investment banks in the world, detailed the three main concerns on the Indian economy.

Pace of India's GDP growth:

• Remarkable growth amid global struggles: The pace of India's GDP growth has been a remarkable standout feature amid the global economic challenges. It surprised both domestic policymakers and international observers by positioning itself to grow by over 7%, outperforming the expectations.
• China's economic slowdown: The year 2023 also saw China, which was until recently the main country receiving the attention of global investors, faced economic slowdown, further enhancing India's appeal.
• Global investors seeking alternatives: Since the start of the Covid pandemic, global investors have started looking for ways to diversify into other economies in a bid to find China’s substitute. There are several names across different continents, such as Mexico and Vietnam, but none of them come with the unique advantage of sheer size that India has.
• India's dual attractiveness: India’s attractiveness is not just because it may prove to be a production base that may substitute China but also because India can be a massive domestic market.
• Engine of global growth:  With a considerable young population and the national ambition to make per capita incomes rise 5-6 times the current levels, India can be the next China, the next engine of global growth.

Concerns global investors have about Indian economy

• Weakening private consumption demand:

• • Concerns about Private Consumption: Global investors express concerns over the sustained weakness in India's private consumption demand, a crucial driver of economic growth. 
  • Weakness predating the pandemic: The trend, evident since before the COVID-19 pandemic, has persisted, with recovery being sluggish, especially in the low- and medium-income segments.
  • Limited government support to households: Unlike many European countries or the US, in India, the government did not provide as much direct financial help to households. This meant that people either ran down their savings or cut expenditures.
  • Impact of Geopolitical Events: The Russia-Ukraine war exacerbated the situation, leading to spiking inflation and eroding purchasing power, particularly in rural areas. 
  • Uneven recovery across economic strata: Even though the consumption levels among the rich Indians have recovered, the bulk of India still continues to struggle. 
• Government-led investment dominance:
  • India’s spectacular success in the current financial year is because of this investment demand. After private consumption demand, this is the second biggest engine of India’s GDP, accounting for around 30% of India’s GDP. However several issues remain:

• • Dominance of government: However, concern centers around the dominance of government-led investment in driving India's economic growth.
  • Surge in Investment tied to public capital expenditure: While investment demand, a significant contributor to GDP, has surged in the current financial year, much of it is attributed to robust public capital expenditure (capex).

• Government's unprecedented Capex levels: The central government's capex to GDP ratio reaching an 18-year high indicates substantial government involvement.
• Limited private sector participation raises concerns:  Global investors worry about the sustainability of this growth model, as private sector participation remains limited.

• RBI Policy:
  • Hawkish Stance of RBI: The latest policy documents from RBI were somewhat hawkish, prompting some investors to ask what if RBI does not cut rates. 
  • Disincentive effect of persistently high interest rates: When interest rates are low, it incentivises businesses to borrow money from the banks and create fresh assets. 
    • By the reverse logic, persistently high interest rates disincentive borrowing and drag down economic activity in the economy.

Optimism & risk about Indian economy growth prospect:

Despite the above concerns, Morgan Stanley’s team remains optimistic about the Indian economy. It expects a virtuous growth cycle to be sustained – where capex brings job creation, income and productivity growth, which in turn liftslift consumption activity. Despite optimism, following are the risk to Indian economy: 

• Electoral Reversals: The key risk would be the emergence of a weak coalition government in the upcoming general election, which could result ininto a pivot back towards redistributive policies at the expense of the focus on boosting capex and implementing supply-side reform.
• Geopolitical Tensions: A number of geopolitical tensions could disrupt global trade and investment flows. A slower world economy will also drag down India’s growth as well while a fast growing global economy will work like booster jets.

Conclusion:

India's growth trajectory is still encouraging despite concerns. It has the potential to produce a positive feedback loop of higher productivity, rising income, and job creation. By tackling issues like consumer spending and private sector involvement, India can establish itself as a robust engine of global economic growth.