A sustained consumption boom is far from assured yet | Mint

A sustained consumption boom is far from assured yet

Not all the digital (Automation and Artificial Intelligence) jobs have to reside within IT firms. Software engineers with such skills are increasingly choosing to work at tech start-ups. Photo: Bloomberg
Not all the digital (Automation and Artificial Intelligence) jobs have to reside within IT firms. Software engineers with such skills are increasingly choosing to work at tech start-ups. Photo: Bloomberg

Summary

  • India has seen a recovery led by profits rather than wages even as private investment remains weak

The festive season has begun with an undercurrent of optimism. Indian newspapers have reported that consumer goods companies, online retailers, high-street stores and malls are expecting strong sales this year. Such buying is welcome at a time when consumer spending is driving economic expansion in India, with infrastructure spending by the government lending a helping hand. Neither corporate spending on new capacity nor global demand is strong enough right now. So, much depends on the strength of consumer demand.

However, the macro numbers present a more complicated picture. Wage growth over the past six years has been anaemic. The new annual report of the Periodic Labour Force Survey (PLFS) that was released earlier this month shows that nominal wages have grown at less than the increase in the cost of living for all three major categories of workers in India: salaried, self-employed and casual. It means that inflation has outpaced earnings for the average Indian household. (The PLFS estimates average monthly earnings for the salaried and self-employed, and average daily earnings for those who do casual work.)

There are three ways to square this hard fact about stagnant real wages with reports of robust consumer buying. First, even while wages in general have not kept pace with inflation since 2017, the earnings of those at the top of the income pyramid have done far better than the average. Salaries in many sectors such as software services did increase rapidly during the post-pandemic recovery. Such spending is powering sales of many types of consumer goods. This fits into the larger narrative of increasing income inequality.

Second, households have adjusted to weak wage growth by taking loans from financing institutions such as banks. The Reserve Bank of India (RBI) released data in September that showed how the incremental flows of financial liabilities of Indian households have been rising sharply over the past two years, though it is still not clear whether they borrowed money to support consumption or to buy new homes (which shows up in national statistics as an investment activity).

Third, households with a steady income still have some excess savings that were accumulated during the two major covid lockdowns. Financial savings of households had gone up sharply in fiscal year 2020-21, as people were either unable or too worried to spend. The stock of financial assets held by Indian households as a percentage of gross domestic product (GDP) has been normalizing over the past two years, as these excess savings have been spent on both goods as well as services—or what has often been described as revenge buying.

Households usually try to smoothen their consumption despite volatility in income by either borrowing or dipping into their accumulated savings. Some variant of this process is likely to have been in play since the pandemic.

A lot also depends on how confident households are about their earnings in the future. They will be more prepared to either borrow or use their accumulated savings to buy stuff when they are confident that their future earnings growth will be strong enough for them to pay back their loans or rebuild their savings. The broader point is that household balance sheets seem to be leveraging even as the balance sheets of the private corporate sector and the government are deleveraging.

The recent trend of weak wage growth brings back another big question about the nature of the Indian economic recovery from the pandemic shock. Has it been led by wages or profits? There is now growing evidence that we have seen a profit-led recovery.

Some explanation is necessary here. Economic activity in a country is measured in two ways— from the supply side, as the value of all the goods and services produced, and from the demand side by estimating spending by households, governments, companies and foreign consumers. The resultant national income is broadly divided into two categories—wages and profits.

The weak growth in wages in the recent past combined with strong profits growth (at least among the large listed companies for which data is easily available) strengthens the argument that we have seen an economic recovery led by profits. There is nothing sacrosanct about which is preferable: economic expansion led by wages or a recovery led by profits. Much depends on the underlying economic situation.

For example, in an economy running at full capacity, strong wage growth will be inflationary as there is no excess capacity in factories to meet the extra consumer demand. A higher share of profits in national income will help fund new capacity creation. On the other hand, a higher share of profits in national income when there is excess capacity as well as slack in the labour market will be unhelpful, since companies are unlikely to use their extra profits to build new capacity.

The current economic situation in India resembles the second rather than the first possibility, even if it’s not exactly the same. That brings us back to what most economists have been saying for some time now—that it is important for private sector investment activity to accelerate for more sustainable growth in the coming years.

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