What 2022-23 is likely to have in store for the country’s economy

The endgame of the current pandemic is shrouded in considerable uncertainty, and we assume that the world is now entering a stage where covid likely to become endemic. We discuss four aspects for India:

First, the shape of economic growth in fiscal year 2022-23 and its drivers. A receding pandemic caseload and improving vaccination rates lends confidence on the 2022-23 outlook, with more than 90% of the adult population covered by at least the first dose and more than two-thirds fully vaccinated by year-end. The bar for full-blown lockdowns is high, with localized restrictions likely the way forward in case of a resurgence. Our base case builds in some downside risks, given the highly unpredictable path of the pandemic, particularly the discovery of a highly transmissible and vaccine-resistant variant, Omicron.

We are counting on better-balanced growth in India’s gross domestic product (GDP), led by a combination of demand recovery owing to high vaccination rates, normal mobility, and sectoral output broadly back at pre-pandemic levels. Jobs in the services sector fell by a smaller extent during the second wave and have since recouped more than 90% of the ground to close in on pre-pandemic levels, according to survey data from the Centre for Monitoring Indian Economy. A revival in manufacturing jobs is at a fourth below the late-2019 headcount. Additionally, higher capital expenditure led by the public sector, a manufacturing push imparted by supportive schemes like the government’s production-linked incentives, and better faring exports of goods (and services) are expected to be other drivers. We project 2022-23 growth to stay firm at 7% year-on-year, after an estimated 9.5% in 2021-22, which is among the fastest in our Asia-10 universe. Despite this buoyancy, there are a few chinks in the armour, as the pandemic’s after-effects on labour markets and incomes are likely to be felt for longer than the revival in other cyclical economic activity.

Second, as the thrust from reopening and pent-up demand fizzle out, we count on capex generation to surface as the next booster. Public spending will need to take the wheel initially, with private-sector participation to be drawn in on better demand visibility, deleveraging, healthier balance sheets and benefits from accelerated formalization. Note that the aggregate debt-to-equity ratio for a sample of cross-sector non-financial firms has eased in the past few years.

A mix of catalysts are likely to spur a multi-year capex push. These include new institutional structures to support a strong infrastructure push via the National Infrastructure Pipeline, efforts to facilitate planning, monitoring and implementation of projects through the Gati Shakti initiative, and the National Monetisation Programme as well as the National Bank for Financing Infrastructure and Development to meet funding requirements. At the sectoral end, tech startups and digital economy players could tap domestic structural strengths. As the number of new-age digital economy players expands, hard infra will need to keep up to support these businesses, including for instance by accommodating high demand for time-bound logistics among e-commerce players.

Climate action commitments and Cop-26 initiatives will require a strong thrust towards non-fossil energy sources, including renewable energy and other clean energy spends. Of our total installed generation capacity, 40% is via non-fossil fuel varieties as of the third quarter of 2021-22. India has committed to meet 50% of its energy requirements from renewable energy by 2030. This will necessitate big-ticket fresh capex across states, apart from sector-specific requirements, such as for electric vehicles and green-hydrogen production. Some innovative ideas have been proposed, such as decentralized solar/wind clusters and the supplementary use of farm land for renewable power generation. Next, we could expect a boost to high-value manufacturing exports in sectors such as machinery and electronics, as well as efforts to localize production. A case in point is India’s $10 billion programme to promote a domestic semiconductor industry, which could support external balances besides helping us reap the benefits of a thriving manufacturing base, labour absorption and upskilling opportunities. Several countries are also in midst of a similar chip-making push, like South Korea, Japan, the US and European nations.

Third, we expect policymakers to map out a covid- policy exit strategy next year. The Reserve Bank of India’s (RBI) move from fixed to variable reverse repo auctions has amounted to stealth normalization, as money market and short-term rates have adjusted up. A reverse-repo hike is likely to follow in February or mid-meeting, but will be non-disruptive. A change in policy stance is pencilled in within the first half of 2022-23, likely to be followed by the start of policy tightening in the second half with 50-basis- point hikes, by when inflation is expected to hover above the mid-point of RBI’s target range. In view of normalization moves by the US Fed and other G-10 central banks, India’s external buffers are comfortable, even as incremental forex reserve accumulation has flattened out. RBI’s intervention strategy is likely to be more two-sided in 2022, aimed at preventing excessive depreciation pressure on the rupee as the US dollar firms up amid higher rates and elevated commodity prices, whilst staying in tune with regional price action to preserve trade competitiveness and contain imported price pressures.

Fourth, consolidated Centre-plus-states debt has increased to nearly 90% of GDP from 75% in 2018-19 owing to higher spending through the pandemic and weaker revenues in the midst of a sharp fall in economic activity. At prevailing levels, India’s general government debt is the highest among similarly-rated emerging-market sovereigns. The spread between the country’s nominal GDP and nominal interest rate (with the 10-year bond yield as proxy) will be positive at 40-50 basis points next year, but narrower than in 2021-22, helping contain borrowing costs. With our assumptions of double-digit nominal GDP growth and a gradual consolidation of the combined deficit taken into account, we expect the country’s public debt level to ease towards 86% of GDP by mid-decade.

Radhika Rao is senior economist and senior vice president at DBS Bank, Singapore