Country briefing note <download pdf file>
Growth slows due to both external and domestic factors
- In India, economic activity slowed considerably in 2012. While the global slowdown is having an adverse impact on exports and consequently on economic growth, domestic demand particularly investment witnessed slower growth as well. Severe tightening of monetary policy in previous years to contain inflation and anchor inflationary expectations has contributed greatly to this.
- GDP growth moderated to 5.4% during the first half of fiscal year 2012. In September 2012, the Government introduced reforms to boost investment, including allowing foreign investment in multibrand retail, civil aviation and broadcasting services. It also partially phased out fuel subsidies and adopted a five-year roadmap for fiscal consolidation. Subsequently, the Government raised the ceiling on FDI in the insurance and pension sectors. The successful implementation of these measures should help foster recovery later.
- Growth for the year as a whole is estimated at 5% as compared with 6.2% in 2011. On the output side, growth of the agricultural sector slowed due to poor weather conditions. Manufacturing output stagnated as external demand as well as domestic investment and private final consumption expenditure decelerated. Services sector growth also slowed as there were adverse impacts on activity in trade, transport, hotels and communications in view of the sector's linkages with the rest of the economy.
- The economy of India is projected to have an improved growth rate of 6.4% in 2013, helped by reform and policy measures taken in 2012 to boost investment.
High inflation persists
- Inflationary pressures continued to remain strong. Consumer price inflation rose to 10% for the first 10 months of fiscal year 2012 as compared with 8.4% in fiscal year 2011. Food inflation has been higher than overall consumer price inflation. Food inflation was driven by higher cereal prices, unlike in the previous year when the pressure came from higher protein food prices.
- The persistence of high inflation in the face of the significant growth slowdown points to serious supply bottlenecks and sticky inflationary expectations. Increases in the administered price of fuel (mid-September 2012: diesel and LPG) as a part of a reduction of subsidies also contributed to the increase in inflation.
- Persistent non-food manufactured products inflation, despite the growth slowdown, has emerged as a major concern. Depreciation of the rupee raised the price of imported products. Wage pressures remain persistent. Therefore, improved supply responses and moderation of wage inflation is vital for bringing down inflation to a more “comfortable” level.
Monetary policy needs to strike a balance between curbing inflationary expectations and reviving growth
- Countries in the subregion are facing serious challenges of slowing down of economic growth and at the same time to contain high inflationary pressures. Therefore, some countries have started to ease monetary policy to support private investment and growth. In India, the cash reserve ratio of scheduled banks was lowered by 50 basis points in January 2012 and by 25 basis points each in September and October 2012 to add liquidity in the banking system and enhance the availability of credit to the private sector. Moreover, the policy rate was also cut by 50 basis points in April 2012, followed by another cut of 25 basis points in March 2013.
Budget deficit continues to remain high
- India also has seen a growing budget deficit in recent years. Its budget deficit rose to 5.7% of GDP in 2011 due to lower than expected tax revenue and higher than expected subsidy payments, which were a result of elevated global prices for oil and fertilizer. However, through expenditure restraint the budget deficit was brought down to 5.2% of GDP in 2012.
- The budget for 2013 is aimed at achieving further fiscal consolidation, and the deficit is targeted at being 4.8% of GDP. The lower budget deficit should provide space for more productive private investment as a result of lower government borrowing. This should also help in containing inflation.
Widening current account deficit
- In India, imports grew much faster than exports and the current account deficit increased to 4.2% of GDP in 2011. Owing to global uncertainties, exports contracted in 2012. Weak external demand affected exports of engineering goods, gems and jewellery, textiles and petroleum products, while imports continued to remain at a high level due to high prices for crude oil, gold and silver. As a result, both the trade and current account deficits increased in 2012.
- Large current account deficits, despite the slowdown in economic growth, are symptomatic of demand-supply imbalances and a pointer to the urgent need to resolve supply bottlenecks. However, capital flows have been adequate to cover the current account deficit thus far.
- In order to realize its development potential, countries in South Asia in general will have to overcome a number of development challenges, including large concentrations of poverty and hunger, rising inequality, poor levels of human development, wide infrastructure gaps, lack of a diversified base for high value added products and exports, widespread food and energy insecurity and high risk of disasters.
- The subregion's economic, social and environmental priorities must be balanced in favour of eradicating extreme poverty and hunger. Today, South Asia remains home to the world's largest concentrations of people living in poverty and hunger, and people without access to basic sanitation and electricity. The subregion is also characterized by having the world's highest levels of child and maternal mortality. Progress on the health, nutrition and sanitation-related Millennium Development Goals and related targets has been stalled because of the large inequalities and disparities within populations that persist in the subregion.
- This subregion faces the dual challenge of raising productivity to ensure that incomes are rising and poverty is falling, and creating enough jobs for a growing working-age population, which is expanding by about 2% per annum. With almost 60% of the population under the age of 30, Governments of countries in South Asia have to take advantage of this demographic bulge. Otherwise, the consequence can be social unrest, conflict and insecurity.
- South Asia must offer a way out of poverty and exclusion for its rapidly growing working-age population. Therefore, countries in the subregion should maximize growth through productive job creation and appropriate structural change to reduce poverty, hunger and inequalities. Countries in the subregion should also provide good-quality education, health, sanitation and other infrastructure to make the most of the youth bulge. In addition, a minimum social protection floor should be established that meets the basic needs of vulnerable populations.
- South Asia faces exponentially growing energy demand, and a number of energy challenges — energy poverty, lack of available supplies, poor energy infrastructure and transport facilities and environmental externalities. The subregion's energy deficits are particularly detrimental in terms of growth and poverty alleviation as parts of the subregion faces regular and sustained power outages. At the same time, the subregion must increase energy usage in order to maintain growth and development. Energy security, linked with energy availability, accessibility and affordability, is a paramount policy concern for countries in the subregion.
- Strengthened regional cooperation can help solve a number of the challenges facing South Asia and can be an important development strategy to ensure a sustainable future for the subregion. Greater regional integration not only increases intraregional trade, but also promotes efficiency-seeking investment in the subregion's supply chain and production networks. This, in turn, creates more and better jobs in addition to building productive capacity, particularly in the subregion's least developed countries.
- Regional cooperation can play a pivotal role in crafting solutions to shared vulnerabilities and helping ensure food and energy security, as well as reducing the subregion's vulnerability to natural disasters. Better connectivity, across the subregion and beyond, can help leverage the subregion's strategic location at the crossroads of Asia and the Pacific to re-emerge as the hub of East-West trade that it once was.