World Bank sees moderation in India domestic demand

World Bank sees moderation in India domestic demand

New Delhi: The World Bank has pared its economic growth projection for India to 8% in 2011 from its earlier projection of 8.4% in January.

In its latest report, “Global Economic Prospects", the World Bank said the reduction stems from an expected moderation in domestic demand, as elevated inflationary pressures cut into disposable incomes and household spending¸ while more restrictive monetary conditions contribute to a dampening of investment activity.

The World Bank said the strength of the recovery in South Asia from the economic slowdown partly explains the persistence of inflation in the region, as little spare capacity remains. High international fuel and food prices are the main factors in South Asia because of its heavy reliance on imports of oil and some staples, such as edible oil.

The World Bank’s growth projection is at market price, while India computes its gross domestic product (GDP) at factor cost. The growth rate computed at factor cost for India by the World Bank showed GDP slowing to 8.2% in 2011-12.

However, finance minister Pranab Mukherjee on Wednesday reiterated his ministry’s growth projection at 8.75% for the current fiscal.

The new outlook reflects a reversal of its earlier projection in January where it said India would grow faster than China in 2012. The bank had said India will grow at 8.7% and China at 8.4%.

The World Bank said the projected deceleration in growth from 2010 reflects progressive tightening of monetary policy and fiscal consolidation aimed at curbing excess demand and inflationary pressures, reducing unsustainably large fiscal deficits and containing deterioration in external balances.

The Reserve Bank of India has raised interest rates nine times since March last year to contain inflationary expectation. The government expects to narrow the fiscal deficit to 4.6% of GDP in the current fiscal from 4.7% in 2010-11.

The World Bank, however, said despite these measures, real policy interest rates are negative—or remain looser than they were prior to the crisis. “Unfortunately, bringing inflation back down will be complicated by the trend rise in inflation over the past decade, which has contributed to an increase in inflationary expectations in recent years," it said.

The World Bank cautioned that India’s growth may decelerate further if inflation is not contained and if the crisis in the euro zone spreads further in the region. If inflation remains elevated, it is likely to begin eating into the region’s international competitiveness and discourage foreign investment—creating headwinds to gains in productivity. The report called for addressing supply constraints through higher investment in the supply chain and further tightening of monetary policy to curb inflation.

Another key external downside risk for India is the political turmoil in the Middle East and North Africa, which may lead to high oil prices, affecting India’s oil import bill. It could also result in sluggish or even falling remittance inflows to the South Asian region, the report said.

However, the World Bank said economic growth in India will gain momentum incrementally in 2012 and 2013 to 8.4% and 8.5%, respectively, led by firmer private sector activity, as inflationary pressures diminish enabling monetary authorities to pursue less restrictive stances. “In particular, investment is expected to firm as tighter monetary conditions are projected to contribute to an easing of inflation expectations and as fiscal consolidation fosters greater access to credit," it said.

The World Bank also projected external demand to strengthen incrementally in 2012 and 2013—assuming continued increased market penetration to faster growing developing countries—and be supportive of growth as well, as large high-income export markets begin to stabilize macroeconomic conditions. India’s investment growth decelerated sharply in the first quarter of calendar year 2011 (January-March) to 0.4% from and 14.1% for 2010 overall.