India's service sector unexpectedly contracts in June amid market optimism

India’s services industry witnessed an unexpected contraction in June as new orders shrink, according to survey data released on Wednesday. This defied a Reuters poll which predicted smooth sailing for the sector.

Meanwhile, The HSBC India Services Purchasing Managers’ Index (PMI) rose to 60.5 in June from 60.2 in May. This is the third year in a row that the index has been above 50, which means expansion in the sector.

Despite the contraction, analysts are optimistic about the Indian service's growth prospects.

“Services activity in India grew fasteras domestic and new international orders picked up,” said Pranjul Bhandari, chief India economist at HSBC.

In New business activity, a leading indicator of demand, has risen since August 2021 and went up again in June.

This was led by a record high in international orders, the highest since the metric was introduced nearly a decade ago.

This is good news for the overall economy. India is already the world’s 7th largest services exporter according to the Reserve Bank of India (RBI).

The country’s economy, the 3rd largest in Asia, grew at 7.8 per cent in Q1 but economists expect a slowdown in the current fiscal.

The strong demand for services has led to hiring by service providers. Job creation has reached a 2-year high since August 2022, and the current hiring growth has been over 2 years.

However, there is a slight moderation in overall sentiment for next year with uncertainty and competition tempering optimism. “While service providers are confident about the business outlook for the year ahead, their optimism has cooled down in the last month,” said Bhandari.

On the upside, cost inflation has slowed down and is at a 4-month low. Less than 5 per cent of the firms passed on the cost burden to clients; therefore, service charges increased modestly.

A Reuters poll suggests that inflation will be below RBI’s medium-term target of 4 per cent this quarter but will pick up next quarter.

However, the central bank is still expected to cut rates to 6.25 per cent by the end of the year.
The composite PMI came in at 60.9 in June, as expected and up from 60.5 in May.

(With inputs from Reuters)