How this economic slowdown is different from the previous ones

Delhi

Indian economy is facing a tough time but it seems we are at the end of it and dawn is approaching. 

For the October-December quarter, GDP grew at 4.7 per cent in line with expectations of various estimates while the growth rate for the September quarter was revised up to 5.1 per cent. 

At the same time, industrial production of 8 core sectors grew for the second month in January while growth in the core sectors for the month of December was also revised up from 1.3 to 2.1 per cent. Before that, it showed that there was a contraction for 4 months. Manufacturing PMI for the month of January also showed sharp uptick when it grew from 52.7 to 55.3. While other high-frequency indicators like passenger vehicle sales, rail freight traffic are giving mixed signals. Inflation has reached 7.59 per cent but that seemed to be due to perishable goods and is expected to come down. 

The government has breached its fiscal deficit target, but looking at improvement in the core sector, it seems to be paying off. 

Although a few green shoots are emerging which are trying hard to sustain, but before we dive into that, let’s take a look at what led to the slowdown. 

Story of a current slowdown began with the delayed recognition of the twin balance sheet. It basically meant that companies were not profitable so they were unable to pay back their loans and since banks did not receive the previous loans they were unable to lend more money.

Due to this investment started deaccelerating at a time when the Indian economy was growing rapidly and a high rate of investment was required to maintain it. At the same time, the central bank increased the interest rates, following which inflation fell quite quickly.

Now high-interest rates, coupled with low inflation, led to the high real rate of interest which further dented the investments. This, in turn, impacted the job and wage growth rate. 

All this happened in the labour-intensive sector, so a large number of people were affected which translated into a lower level of consumption, while rural consumption also fell due to the problem of uneven monsoon. 

Since businesses were already under pressure, this fall in consumption had a multiplier effect which led to a bigger fall in investments and more downsizing by firms. For example, in the FMCG sector - the sales growth in rural areas is generally more than urban counterpart but last year it fell to almost half. 

Due to a tight balance sheet of banks, NBFC sector (Non-Banking Finance Company) emerged into prominence and its lending increased, specifically for high ticket items like cars and homes. Also, NBFCs give a huge amount of loan to the unorganised sector. But shadow banks also took a hit after ILFS fiasco as lenders’ trust on NBFCs dented. 

Now the global economy was also facing headwinds due to geopolitical tensions in the form of a trade war and Brexit but in most of the developed countries, the labour market was quite strong and that supported consumption. Since India's consumption also took a hit, we saw a sharp fall in the Indian growth rate as compared to the rest of the world. 

Not to forget, the fall in investments affected the competitiveness and productivity of Indian firms at a global level (potentially), and this along with global slowdown dented the exports. 

Government is in full fledge mode to revive growth, it has reduced corporate tax, changed personal income tax structure, set up infrastructure fund of Rs 105 lakh crore, while also coming up with various sector-specific measures. Although the government's earnings are facing stress due to low tax collection and delay in the divestment process, but right now it is more concerned about growth.

So if the economy is revived, even though the fiscal deficit target is breached, the long term fiscal consolidation target will also be achieved.

Reserve Bank of India (RBI) is also showing up its ammunition in the fight against slowdown, as it reduced the repo rate by 135 basis point. 

And when inflation constrained it from reducing the rate further, the RBI came up with other measures like operation twist (buying long term bonds and selling short term bonds to reduce long term interest rates), easing CRR norms on incremental loans to boost lending for MSME, automobile and residential sector. 

Furthermore, the central bank conducted long term repo operation, so banks can get money at cheaper rates and also linked more loans to external benchmarks like repo rates. 

Although RBI reduced rates by 135 basis points, banks have not completely transmitted them because of which their profitability has improved, also the previous NPAs are being resolved.

And quality shadow banks (High-grade NBFCs) are also emerging stronger as their borrowing cost has reduced. 

Still, there are few headwinds like telecom sector and now the coronavirus is a googly which took everyone by surprise. 

Coronavirus has disrupted the supply chain and has impacted both the manufacturing and the service sector. The virus is spreading across the world and it can become a pandemic, which can cause a global recession. On the global front, fear of recession is quite high as indicated by a sharp fall in financial markets. 

The current slowdown is basically a result of the policy - prevention is better than cure as business activities are being shut off to contain virus outbreak while previously it was more like a cure after the damage.

Economic fundamentals, like job market and consumption, are still strong so if the virus is contained soon, then sharp recovery can be expected in sentiment. 

In the current scenario, the high-frequency indicator will have a favourable base effect which might give a further boost to the sentiment. 

Also, an incident like this brings countries closer and to revive the global economy from something like this, a collaborated action can be required which would lead to countries shifting from protectionism to a more open economy. 

This would boost exports growth in India while attracting foreign money in the form of both FPI and FDI. 

(Disclaimer: The opinions expressed above are the personal views of the author and do not reflect the views of ZMCL)