Are recent GDP downgrades justified?

Are recent GDP downgrades justified?

Mumbai: They are sharpening their knives. Almost every other day now, one finds a report by an economist that has downgraded India’s economic growth rate. In stark contrast to the Finance Ministry’s optimism about a 9% growth rate for fiscal 2012, economists at brokerages such as Standard Chartered, Morgan Stanley, Credit Suisse, Goldman Sachs, Deutsche Bank, Merrill Lynch and UBS have revised their growth targets downwards to the 7-8.5% range.

Fund-managers’ favorite chant - ‘India growth story’ - no longer seems to draw as many admirers as it used to, say six months ago.

Since then it has been scams, inflation, monetary tightening, rising commodity prices, earnings downgrades for companies and growing fiscal deficit that the market seems to be talking about.

The market is worried about a growth slowdown, although no Indian fund-manager who wishes to advance in his career will admit as much. As one fund-manager put it, it is considered unpatriotic in this country to question India’s growth trajectory or sound bearish.

So, is the India growth story just that, a story?

That we feel would be stretching facts too far.

After all, few economists believe that India’s growth would collapse. Even economists who believe that growth would be lower expect, at worst, a 1-1.5 percentage point decline next year compared to the 8.75% estimate for fiscal 2011 by the government.

Economic forecasting is however an inexact science and no one really knows how oil prices or even global growth will pan out.

In case, the euphoria over growth in developed markets fizzles out or commodity prices correct, Indian markets even with a 7% GDP growth might start looking quite attractive.

A major reason for most growth downgrades is the slowdown in capital expenditure, without which it would be difficult to sustain growth. Remember, that during the 9%-plu growth years of 2006 and 2008, investment demand contributed at least 50% to gross domestic product growth.

With India’s structural problems, inflation is likely to rear its ugly head whenever growth approaches 9%. A rapid pick-up in infrastructure projects may ease supply side constraints but is yet to materialize.

Leif Eskesen of HSBC wrote in a recent note that PMI indicators are strong and inflation poses a bigger threat than a slowdown in growth momentum. Perhaps the truth is that inflation poses the biggest threat to the growth momentum. It would not be surprising to see the central bank taking a similar view in its review of monetary policy.