India's GDP Story Gets Topsy Turvy with Revisions in Past Data

Significant downward revision in GDP growth during Q1 and Q2 of FY19 has been one of the key reasons for boosting GDP growth in the corresponding quarters of FY'20.

India’s gross domestic product (GDP) estimation by the Central Statistics Office (CSO) has been a story of upward and downward revisions in the last year.

While the GDP for Q3-FY’20 is estimated at 4.7%, its slowest pace in almost seven years, what is interesting and perhaps puzzling is the upward revision in the GDP growth of Q1-FY’20 (from 5% to 5.6%) and Q2-FY’20 (from 4.6% to 5.1%).

Notwithstanding this, GDP growth for the full year has been retained at 5%. This means that the CSO believes GDP growth in Q4-FY’20 would be flattish, at around 4.7%. Despite a favourable base effect available for Q4-FY’20, a flat GDP growth during the current quarter (Q4-FY’20) means that the aid on account of this would be offset by an adverse impact of the recent pandemic of coronavirus, which could disrupt global value chains.

What did Q3 numbers show?

Sectoral analysis shows a contraction in manufacturing and electricity have pressured overall GDP growth for the quarter that ended December 2019. Negative growth in manufacturing activity for two consecutive quarters is an area of concern which needs attention. Barring mining, which has been the exceptional surprise during the quarter, other components of the industry sector (manufacturing, electricity and construction) has seen a significant decline in growth compared with Q3-FY19.

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Though mining has a minuscule share in value addition, this growth has come inspite of the negative growth in key indicators of this sector namely coal, natural gas and crude oil. On the expenditure front, consumption growth continues to be subdued at 5.9%, but consecutive quarters of contraction in investment activity raises red flags. On a sequential quarter level, negative growth has widened from -3.3% in Q2-FY20 to -4.9% in Q3-FY20.

Investment activity as a percentage of nominal GDP has been at its lowest since Q2-FY 2003. What will only pose further challenges to reverse this trend is India Inc’s weak capacity utilisation, as shown by a recent Reserve Bank of India survey. On similar lines is the weakness in export growth, and given the outbreak of COVID-19 across the globe and its subsequent impact on global GDP growth, export growth will slacken.

The story of upward and downward revisions

The RBI, in its recent monetary policy meetings, has stressed a lot on the base effect playing a role in supporting growth in Q4-FY20. Though this base effect could be hampered by an external epidemic, it is intriguing to see the revisions in GDP growth across sectors for the preceding quarters.

The significant downward revision of 90 bps and 80 bps in GDP growth during Q1 and Q2 of FY19 respectively, has been one of the key reasons for boosting GDP growth in the corresponding quarters of FY20 by 50-60 bps. Sectoral analysis shows that 5-6 sectors out 8 sectors have seen a downward revision in growth.

Also, the downward revision in Q3-FY19 by almost 70 bps pushed growth numbers in Q3 of the current fiscal.

Table 1: Initial (IE) vs Revised (RE) estimates of quarterly GDP growth

% growth Q1-FY19 Q1-FY19 Q2-FY19 Q2-FY19 Q3-FY19 Q3-FY19 Q1-FY20 Q1-FY20 Q2-FY20 Q2-FY20
Agriculture, forestry and fishing 5.1 3.8 4.9 2.5 2.8 2 2 2.8 2.1 3.1
Mining and quarrying 0.4 -7.3 -2.2 -7 1.8 -4.4 2.7 4.7 0.1 0.2
Manufacturing 12.1 10.7 6.9 5.6 6.4 5.2 0.6 2.2 -1 -0.4
Electricity, gas, water supply, and other utility services 6.7 7.9 8.7 9.9 8.3 9.5 8.6 8.8 3.6 3.9
Construction 9.6 6.4 8.5 5.2 9.7 6.6 5.7 5.5 3.3 2.9
Trade hotels, transport, storage and communication 7.8 8.5 6.9 7.8 7.2 7.8 7.1 5.7 4.8 5.8
Financial services, real estate and professional services 6.5 6 7 6.5 6.9 6.5 5.9 6.9 5.8 7.1
Public administration, defence and other services 7.5 8.8 8.6 8.1 7.5 8.1 8.5 8.7 11.6 10.1
GVA 7.7 6.9 6.9 6.1 6.3 5.6 4.9 5.4 4.3 4.8
GDP 8 7.1 7 6.2 6.6 5.6 5 5.6 4.6 5.1

Source: MOSPI

Are we in a state of stagflation?

With the further slowing down of output growth on a sequential basis, along with rising retail inflation and high unemployment, the talks of ‘stagflation’ in the economy will prop up again. The term was first used by British politician Iian Macleod in 1965 to describe the inflation during stagnation in business activities and rising unemployment in the United Kingdom.

Technically, the term has different meanings, with Paul Samuelson in 1972 describing it as a combination of inflation and unemployment, while Michael Parkin and Robin Bade in 1986 described it as combination of inflation and declining output. Norbert Berthold and Klaus Grundler in a research paper in 2013 showed that stagflation was induced by oil shocks in 1970 and 1980, while recent decades have shown stagflation largely affected by monetary policy and labour productivity. Another paper by Robert Barsky and Lutz Kilian validates the argument and shows that in the absence of supply shocks, monetary expansions and contractions can also generate stagflation. 

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In the current Indian context, retail inflation has been rising due to a supply shock in food and could be transitory. Oil prices have declined owing to weak global demand and don’t pose a threat. Chetan Ghate, member of the monetary policy committee, highlighted that after inflation targeting was adopted, core inflation has not converged upwards towards headline inflation, suggesting a lack of second-round effects. Thus, similar to history, the rise in inflation is caused by a supply shock, but whether it will have second-round effects and a broad-based impact will require further monitoring of inflation components.

In terms of unemployment, latest data for 2017-18 released by the Ministry of Statistics shows it to be high. But output in the economy has not stagnated, nor has it contracted.  Yes, there is deceleration which is evident from the numbers, but equating it to stagflation requires examination of further data points. 

Policy action amidst an external shock

Economic activity remains weak and could further exacerbate amidst the latest external shock of COVID-19. Economic commentator Niranjan Rajadhyaksha has pointed out that in 2019, China accounted for around half of the global economic growth. He further added that a small crack in the supply chain can throw an entire industry in turmoil. In terms of traded value, China accounted for 5% of total exports from India, while India imported 13.7% of its total imports from China.  A large component of the imports will be in the form of raw materials and could weigh on manufacturing activity, which is already constrained. Domestic supply constraints or rising import prices of a few commodities could further add to inflationary concerns. Amidst all this, impact of benign crude oil prices will be a positive.

The monetary policy committee members in the February 2020 policy highlighted a number of upside risks to growth, including the virus impact and the global supply disruptions. However, since then, the outbreak has widened and has also impacted financial markets.

Michael Patra, another monetary policy committee member, has summarised our current situation as a tunnel of testing trade-offs. The inflation-output trade-off will continue and policy action will remain handicapped, given the externality of the shock. No wonder, it may be a while before the light at the end of the tunnel is sighted.

Sushant Hede is an Associate Economist at CARE Ratings. Views expressed here are personal.