As if the contagion spreading from the credit markets in the West was not enough, the stock markets will now have to grapple with what appears to be a full-fledged slowdown in industrial growth. The Index of Industrial Production (IIP) numbers for June show a distinct deceleration. Manufacturing growth slipped from 13.7% in April to 11.7% in May, and to 10.6% in June. Economists say the Reserve Bank of India’s (RBI) efforts at slowing the economy are finally bearing fruit.

What’s more interesting is the divergence in the economy. As the table shows, growth in the capital goods index is actually accelerating, moving up from a year-on-year rate of 14% in April to 29% in June. Over the same period, consumer durables growth fell from a tepid 5.2%, to an abysmal 0.6%. Growth in consumer non-durables also slowed, falling from 19.3% in April, to 5.4% in June. Clearly, while RBI’s efforts have produced a slowdown in the consumer durables segment, in autos and in sectors such as housing loans, the capital goods sector has not only been unaffected, but has gained in strength. To what extent this is the result of access to cheap funds from abroad, or the fact that corporate projects are less sensitive to interest rate increases than EMI-paying individuals, is a matter of debate. There’s little doubt that both factors are responsible.

That divergence is also evident in the markets. Since the 26 July close, that is, from the day before the markets started to fall, the Sensex has lost 5.8%. Over the same period, the BSE Auto index is down 5.7%, while the BSE Capital Goods index is down 3.6%. Also, prior to the decline, capital goods stocks had gone up much more, while auto stocks had underperformed the Sensex. The BSE FMCG index performed even better, falling by a mere 1.4% from its close on 26 July. Stocks such as United Spirits Ltd (UB Group) and Marico Ltd are, in fact, higher than their closing prices on 26 July. But then, FMCG is always a classic defensive sector—a safe haven in turbulent times.

The difference in sectoral rates of growth is also seen from the June quarter corporate results, with earnings growth and earnings visibility for capital goods companies far better than for auto firms. And, finally, adjusted for forex translation gains and other exceptional items, earnings growth, too, has slowed down in the June quarter. Clearly, it’s not only the global cues that the markets should pay attention to.

Credit growth picks up

The latest data from RBI indicates that credit growth is picking up. For example, while credit growth during the four weeks from 25 May to 22 June was Rs9,281 crore, it more than doubled to Rs18,655 crore in the succeeding four weeks to 20 July. Of this amount, non-food credit growth, which was Rs10,189 crore between 22 May and 25 June, picked up to Rs21,315 crore between 2 June and 20 July. Over the same period, deposits growth also increased, although not at the same pace. Growth in bank deposits was Rs59,522 crore between 25 May and 22 June, and Rs61,669 crore between 22 June and 20 July. That means the incremental credit-deposit ratio improved from a dismal 15.6% between 25 May and 22 June, to a still low, but more respectable 30.2% in the next four weeks.

It is very normal for credit growth to start the fiscal year on a negative note and pick up slowly. Trouble is, the incremental credit-deposit ratio a year ago, between 23 June and 21 July 2006, was 50.6%. So while it’s true that credit growth is picking up, it lacks the momentum it had last year—non-food credit rose by Rs31,659 crore in the aforementioned period last year, almost 50% more than the same period this year.

Part of the reason undoubtedly lies in the substitution of external commercial borrowings for domestic credit and in the revival of the primary markets. But there are also unmistakeable signs of a slowing down in the economy. The seasonally-adjusted ABN Amro Purchasing Managers’ Index, for instance, fell to its lowest level in its 28-month history in July. Surveys also indicate that business confidence too has been slipping. Export growth has also been affected by the appreciating rupee.

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