IMF slashes India’s potential GDP forecast by 25 bps to 6%

The International Monetary Fund (IMF) on Monday said it has pared down India’s potential growth forecast by 25 basis points to 6% due to the impact of the pandemic which hit investments and labour market badly.  

Potential growth is the rate of growth that an economy can sustain over the medium term without generating excess inflation. 

“We think the impact (of the pandemic) is coming from the capital accumulation channel. Investment took a big hit, that means capital stock is somewhat lower than it would have been otherwise. Then of course there is some damage to the labour market. So, we have reduced potential growth (of India) by 25 basis points to 6%,” Alfred Schipke, Mission Chief for India at the IMF said in a virtual media interaction. 

Schipke however said if the government fully implements structural reforms, moves forward with its privatization plan, then that could be an upside to IMF’s own potential growth projection. “We know from experience of other countries that implementing important structural reforms takes time. So, the key is to implement it fully,” he added.  

Jarkko Turunen, Deputy Division Chief at Asia and Pacific Department of IMF highlighted the human capital component in the labour market distortion caused by the pandemic. “We have seen reduced access to education and training due to the pandemic and would expect that would weigh on human capital growth looking forward. This would have an adverse impact on labour markets and potential output. This is quite important to address,” he added.  

In the Article IV consultation report on India released on Friday, IMF said a persistent negative impact of covid-19 on investment, human capital, and other growth drivers could prolong the recovery and impact medium-term growth.  

 “While India benefits from favorable demographics, disruption to access to education and training due to the pandemic could weigh on improvements in human capital. At the same time, the recovery could also be faster than expected. Faster vaccination and better therapeutics could help contain the spread and limit the impact of the pandemic. In addition, successful implementation of the announced wide-ranging structural reforms could increase India’s growth potential,” the report said.  

Reflecting its large share in global activity, IMF said India’s growth and economic outlook have global and regional implications. “India’s GDP accounts for around 7% of the world and 80% of the South Asia total in purchasing-power party (PPP) terms. A decline in the country’s growth therefore has a sizeable negative impact on global growth, with spillovers working primarily through trade linkages and global supply chains,” it added. 

IMF said the Indian authorities broadly agreed with the staff’s assessment of near-term growth but are optimistic about medium-term growth. “Beyond the near-term, the authorities conveyed optimism, expecting a more resilient financial sector and more limited adverse impact from the pandemic on medium-term growth. They emphasized the role of structural reforms, government capital spending, privatization and asset monetization, and growth friendly sectoral strategies in supporting private sector development and growth,” it added. 

Finance minister Nirmala Sitharaman last week said India can maintain 7.5-8.5% growth for the next decade given India’s investment attractiveness and demographic dividend. “We are looking at close to double digit growth this year and this would be the highest in the world. For the next year, on the basis of this year, growth would definitely be somewhere in the range of 7.5-8.5%. I expect that to be sustained for next decade because the rate at which action in core industries are happening, rate at which services are growing, I don’t see a reason for India to be anywhere lesser than that in the next coming decade," Sitharaman said while participating in a conversation with former US treasury secretary Larry Summers at the Harvard Kennedy School.