The 7.9% growth in India’s gross domestic product, or GDP, for the second quarter is a welcome surprise. However, the question, more importantly, is: is the quality of growth improving? The short answer is that it is. True, it’s been pushed up by government spending—government final consumption expenditure rose an astonishing 26.9% year-on-year (y-o-y), much higher than the 10.2% y-o-y growth notched up during the June quarter. The impact of government spending is also evident from the 12.7% y-o-y rise in “community, social and personal services” in the September quarter. But even if these services had grown at the same rate as during the first quarter, GDP growth would still have been around 7%.
There are clear signs of increasing private demand. Private final consumption expenditure rose by 5.6% y-o-y, well above the mere 1.6% growth it had notched up during the June quarter. This is quite a surprise, since it was expected that the drought would curb consumption. Lower interest rates have helped, as seen from the rise in automobile sales.
Even investment demand has perked up, with growth in gross fixed capital expenditure going up from 4.2% in the first quarter of 2009-10 to 7.3% in the second quarter. That’s probably the result of better financing opportunities, seen from the increase in external commercial borrowings, in public issues and in qualified institutional placements.
Graphics: Naveen Kumar Saini / Mint
Nevertheless, as much as half of the growth in GDP at market prices (at 1999-2000 prices after adjusting for discrepancies) was due to the improvement in the trade balance. Normally, imports are much larger than exports and the net figure is subtracted from GDP at market prices. But tepid growth in imports has lowered that negative contribution. In the June quarter, the trade balance contributed 46% of GDP growth after adjusting for discrepancies. But this improvement in the trade balance is temporary and will come down once conditions become more normal.
The good thing was that private consumption expenditure contributed 26% to GDP growth in the second quarter, compared with 14% in the first. Government consumption expenditure was 18% of GDP growth in the second quarter, compared with 15% in the first. And investment demand or gross fixed capital formation accounted for 21% of GDP growth in the second quarter, against 20% in the first.
Looking ahead, GDP growth was a low 5.8% in the third quarter of 2008-09, so the positive base effect will play out in the next two quarters. The PMI (Purchasing Managers’ Index) numbers—based on surveys of purchasing managers—so far have shown continuing month-on-month growth in both manufacturing and services, indicating strong upward momentum. Liquidity too has remained ample. In other words, the improving trend seen in the second quarter should continue, although there should be some impact from the drought and higher inflation.
In terms of policy, since private final consumption expenditure has rebounded, a case for tightening policy by the Reserve Bank of India can be made. At the very least, it’s time to tighten liquidity. The government stimulus will in any case wind down and if the momentum in PMI persists, there’s no reason why fiscal sops should not be withdrawn in the next budget.
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