Economy Matters: November - December Issue

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    NOV-DEC 2015

    As anticipated, the US Federal Reserve raised interest rates for the first time in almost a dec-ade, signalling that the pace of subsequent hikes will be gradual and will depend on how the economy moves forward. More importantly, the Fed said that its stance of monetary policy would remain accommodative after this increase, thereby supporting further improvement in labor market conditions and a return to 2 per cent inflation. The impact of the Fed rate hike on In-dias exchange rate and stock market was minimal as a rate increase had already been factored in by the markets. However, the Fed rate hike settles one issuethat asymmetric monetary policy across developed economies is now a hard reality. Conforming to this trend was the European Central Bank (ECB), which announced further measures to stimulate the Euro zone economy by extending quanti-tative easing until at least March 2017.

    Domestic GDP data grew at higher rate of 7.4 per cent in the second quarter of FY2016, indicating that the recovery has gained strength, as we had anticipated. GDP growth is likely to exceed 7.5 per cent for the full year. In a year when external demand remains a drag on the economy, this would be considered a strong performance. The acceleration in the manufacturing sector shows that the governments policy direction is bearing fruit. The Make in India campaign with its objective of raising the growth rate in the manufacturing sector has begun to make an impact. Policy measures need to focus on a revival in project execution in manufacturing, real estate and infrastructure. An ac-commodative monetary policy is also critical for pushing up growth. In this regard, the RBIs decision to maintain status-quo in its policy review held in early December was in line with our expectations, given that there has already been a reduction of 50 bps in the last policy. The focus has now shifted to the transmission of lower policy rates to banks lending rates. Banks need to be ready to finance a pick-up in credit growth and RBI should ensure that high level of non-performing assets do not con-strain banks from financing higher growth. We are happy to note that the RBI intends to maintain an accommodative policy stance.

    Favourable demographics position India to fill the void created by countries with an ageing popula-tion, and become a major player in global business. The manner in which India uses this opportunity will determine whether it will reap its demographic dividend. Apart from tackling spatial challenges arising from a remarkable disparity in the demographics of its States, India will have to address the critical issues of creating jobs and preparing its youth to participate in its economic growth. India will need to alter its policy framework and give incentives for creating sufficient jobs and alleviating workforce skill-mismatch. If status-quo persists in India policy framework for education & training and workforce management, economic growth will soon hit a speed breaker. Hence, its critical to create an educated workforce and job opportunities for realising the demographic dividend.

    Chandrajit BanerjeeDirector General, CII

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    Global TrendsCheer continues to make its way in the Euro zone countries. While France, Germany, Italy and Spain have mirrored the leaping growth in the Euro zone, Greece is still stuck in a dicey situation. In the third quarter of current fiscal, the growth in GDP doubled to 1.6 per cent, on the back of private and state ex-penditure. This mirrored the stimulus measures that have been announced by the European Central Board in the recent past. After ECBs hawkish cut, the Fed has delivered a dovish hike. Economic activity in the US has been expanding at a moderate pace. The growth in GDP in the third quarter of 2015 softened to 2.2 per cent. Given the economic outlook, the Fed-eral Open Market Committee which met on 15th-16th December decided to raise the target range for the federal funds rate to 0.25 per cent to 0.5 per cent. Previously, it was between 0 per cent and 0.25 per cent, a level it had been at for seven years. The stance of monetary policy remains accommodative after this increase, thereby supporting further improvement in labor market conditions and a return to 2 per cent in-flation.

    Domestic TrendsGDP growth rose to 7.4 per cent in Q2FY16 from 7.0 per cent in the previous year and was broadly in line with expectations. Gross value added (GVA at basic prices) also rose to a similar reading of 7.4 per cent during the quarter. Even though the GVA and GDP remained robust during the quarter, the correspond-ing nominal growth slowed down to 5.2 per cent and 6.0 per cent respectively. Looking ahead, a tentative economic recovery is underway, but is still far from robust. GDP growth is likely to exceed 7.5 per cent for the full year. Industrial output jumped to a 5-year high of 9.8 per cent in October 2015 as compared to 3.8 per cent in the previous month mainly due to fes-tive demand and low base of last year. All the major components of the IIP performed well in October 2015. Inflation on the other hand has remained sub-dued except for occasional spurt in CPI inflation in the last few months. On the external front, global weak-ness has translated into our merchandise exports fall-ing for the twelfth consecutive month in November 2015.

    Corporate PerformanceThe corporate results at the end of the second quar-ter of current fiscal continued to remain weak as the financial performance of Indian companies, espe-cially manufacturing sector firms showed only mild improvement. Net sales on an aggregate basis con-

    tracted by 5.7 per cent while for manufacturing firms it showed contraction to the tune of 12.5 per cent during the second quarter of the current fiscal. There was deceleration witnessed in profitability on an ag-gregate basis as PAT declined to 1.4 per cent. While the growth in expenditure costs stood somewhat curbed, the fading growth of net sales, as well as de-cline in PAT, added to the problems.

    Sector in Focus : Financial Conditions Index in 3QFY16The CII IBA Financial Conditions Index came at 70.3 for Q3 FY 2015-16, thus showing healthy improve-ment in the overall financial conditions in the Indian economy vis--vis the previous quarter (67.8) owing to expectations of leading banks and financial insti-tutions of reduction in cost of funds, strong liquid-ity position, better external financial linkages and an uptick in economic activity. The reading of the Index was significantly above the 50 mark implying a strong majority of the respondent banks and financial insti-tutions reporting improvement or no change in the overall financial conditions as against deterioration vis--vis the previous quarter. The scale of improve-ment in the financial conditions index for the current quarter will provide the necessary comfort to the RBI in continuing and further extending the accommo-dative monetary policy stance for supporting higher economic growth.

    Focus of the Month : Skilling IndiaEvolving demographics clearly point out that India will remain a young nation and the largest contributor to the global workforce over the next few decades. This is in sharp contrast to the rapidly aging popula-tion in the Western countries. Although, investment, reforms and infrastructure are likely drivers of Indias economic growth, no growth driver is as certain as the availability of people in the working age group. A young population is Indias demographic dividend. It gives India the potential to become global production hub as well as large consumer of goods and services. Further, since the age- group of 45-60 years is the key contributor to household savings, Indias saving rate, which has increased rapidly in the last decade, will get a further boost thereby supporting investment. The rise in its working-age population, however, is neces-sary but not sufficient for India to sustain its economic growth. If India does not create enough jobs and its workers are not adequately prepared for those jobs, its demographic dividend will become a liability.

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    US Federal Reserve Bites the Bullet, Raises Rate

    NOV-DEC 2015

    Economic activity in the US has been expanding at a moderate pace. Household spending and busi-ness fixed investment have been increasing at solid rates in recent months, and the housing sector has improved further; however, net exports have been soft. The growth in GDP in the third quarter of 2015 softened to 2.2 per cent as compared to 2.9 per cent in the com-parable quarter in the previous year. This was mostly led by a sharp fall in gross fixed capital formation and exports. Growth in fixed capital declined to 3.5 per cent as compared to 4.8 per cent in the third quarter of 2014. Growth also moderated in government consumption expenditure to 0.1 per cent as compared to 0.3 per cent in the comparable quarter in the previous year. Margin-

    al improvement in the growth in private consumption to 3.2 per cent, as compared to 3.0 per cent previously, was witnessed. Growth in exports fell to 1.2 per cent, as compared to 3.7 per cent in the July-September quar-ter of previous fiscal year. Growth in imports, which are subtracted from the GDP, rose sharply to 5.6 per cent, from 3.1 per cent previously. Consumer prices, though, as a relief have been constantly declining, both for food and energy. Inflation has continued to run below the 2 per cent longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports. Market-based measures of inflation compensation re-main low; some survey-based measures of longer-term inflation expectations have edged down. Further, a range of recent labor market in