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Contents

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Page 1

Macro Scan

Page 2

Issue 88October 2014

Economy Outlook

Page 3

Special Article

Page 4

Real Sector

Price Scenario

Money & Finance

External Sector

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D&B�ECONOMY

The recent set of macroeconomic data has not been as encouraging as the developments regarding the various government initiatives. The focus on 'Make in India' by the Central government to push manufacturing sector into a high growth trajectory, the supreme court's decision regarding the coal graft case which would finally pave way for full-fledged coal reforms, the Japan-India and US-India investment promotion partnership which envisages large scale funding by these countries in India and setting up of Infrastructural Investment Trusts (InvITs) been much encouraging. In addition up gradation of sovereign ratings from negative to stable by a leading global rating agency also re-enforced the confidence of foreign investors for India.

However, the poor correlation in the performance of the two industry indices, i.e. the eight core infrastructure and IIP which clearly indicates the underperformance of the non-core or primarily the manufacturing sector does not forebear good tidings. In addition, the electricity sector, currently growing in double digits could witness a temporary slack due to disruption in coal supply. Moreover, it is not clear as of to what extent the festive fervor will uplift the consumer demand as the impact of uneven rainfall on crop production and rural income would impact overall consumer demand.

Growth of bank credit has decelerated sharply in August 2014, lowest from June 1998 (data is available since June 1998 in RBI database). Even though WPI has eased to almost 5 years low, the start of the festival season and substantial shortfall in production of various kharif crops (as per advance estimates) could lead to firming up of prices of cereals and pulses. Deceleration in credit growth coupled with expected weak rural demand point towards moderation in GDP growth in the near term.

Rupee is weakening as dollar has started strengthening in anticipation of tighter US monetary policy which in turn is likely to increase the cost of servicing foreign loans. Large number of Indian corporations borrow from overseas market and quite often these loans remain un-hedged. If the slump in the international commodity prices is due to pessimism about global growth prospects, it is highly likely that the equity assets of emerging market economies will be impacted by rise in risk aversion. Out of the total FII Inflows in India since Jan to Sep 2014, 59% have been in debt markets - the segment which is more volatile than equity and witness frequent reversals. Lastly, the latest data show that India's trade deficit widened and gold imports have been significantly high. Imports of gold have surprisingly shot up despite the various efforts by the government and the RBI to curb gold imports. The question is if demand for gold among Indian consumers is increasing then why are the other segments of consumer durables sector not showing any signs of uptick?

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Real Sector

Price Scenario

Money & Finance

External Sector

Source: Mospi and Ministry of Industry and Commerce

Source: SEBI

Macro Scan

* During Aug-14, the growth of Index of Industrial Production remained flat at 0.4 %( y-o-y) as compared to Jul-14 and Aug-13.

* The mining and electricity sector registered a growth of 2.6% (y-o-y) and 12.9% (y-o-y) respectively during Aug-14, whereas the manufacturing sector further declined by 1.4% in Aug-14 as against the decline of 1.0% in Jul-14.

* The capital goods and consumer goods sector continued its declining trend during Aug-14 and fell by 11.3% (y-o-y) and 6.9% (y-o-y) respectively.

* However the basic goods sector grew by 9.6% (y-o-y) in Aug-14 as against a moderate growth of 0.9% (y-o-y) in Aug-13.

* The combined index of eight core industries stood at 165.1 in Aug-14, which was 5.8% higher compared to the index of Aug-13, owing to high growth of coal, electricity, cement and steel sectors.

* WPI inflation eased to 59 months low to 2.4% (y-o-y) during Sept-14 from 3.7% (y-o-y) in Aug-14 and 7.0% (y-o-y) during corresponding period last fiscal.

* During Sept-14, inflation in primary articles moderated to a 9.1 years low of 2.2% (y-o-y) against 14.0% in Sept-13.

* Inflation in fuel &power and manufactured products also moderated further to 1.3% (y-o-y) and 2.8% (y-o-y) respectively in Sept-14 against 4.5% (y-o-y) and 3.5% (y-o-y) during Aug-14

* The CPI inflation (combined for rural and urban) for Sept-14 moderated to 6.5% as against 7.7% in Aug-14, driven by fall in inflation for clothing & bedding and footwear, fuel and light, transport & communication and household requisites.

* In the fourth bi-monthly monetary policy the RBI kept repo rate and CRR unchanged to 8.0% and 4.0% respectively.

* The RBI reduced the liquidity provided under the export credit refinance (ECR) facility from 32% of eligible export credit outstanding to 15% with effect from October 10, 2014.

* The aggregate deposit and bank credit grew by 13.4% (y-o-y) and 9.7% (y-o-y) respectively in the week ended Sept 19, 2014 as against a growth of 13.6% and 17.6% in the year-ago period.

* Deployment of bank credit in the agricultural sector (18.8%) witnessed a significant growth in Aug-14 as against 12.1% in the year ago period.

* However, during Aug-14, deployment of bank credit to micro & small, medium and large industries (7.6%), services (8.9%) and priority sectors (13.2%) moderated as against a growth of 17.3%, 18.4% and 16.6% respectively during Aug-13.

* India's exports grew by 2.7% (y-o-y) to US$ 28.9 bn in Sep-14 while imports registered a significant growth of around 26% to US$ 43.2 bn leading to a trade deficit of US$ 14.3 bn.

* Non-oil imports increased by 36.2% to around US$ 28.7 bn during Sept-14, whereas oil imports declined by 9.7% to around US$ 14.5 bn.

* FDI inflows in equity significantly increased by 52.2% (y-o-y) to US$ 10.7 bn during Apr - Jul FY14 as compared to US$ 7.1 bn during Apr - Jul FY13.

* India's external debt at US$ 450.1 bn rose marginally by 1.8% in Q1-FY15 over Q4- FY14. The share of short-term debt in total debt in terms of both original maturity and residual maturity declined further over Q4 FY14 as investment of FIIs in Government treasury bills and other instruments showed a decline in Q1 FY15.

Moderating trend in inflation continues

Source: RBI

Bank credit all time low since Jun-98

Net investment by FII during H1 FY15 is around US $ 24.1 bn against outflow of US $ 4.7 bn during H1 FY14

Source: Mospi

Core industries outperformances IIP growth

0.0

2.0

4.0

6.0

8.0

-3.0

-1.0

1.0

3.0

5.0

7.0

Jan-1

4

Feb-1

4

Mar-

14

Apr-

14

May-

14

Jun-1

4

Jul-14

Aug-1

4

% y-o-y

IIP Eight core industries

% y-o-y

2.0

5.0

8.0

11.0

14.0

Jan-1

1

Mar-

11

May-

11

Jul-11

Sep-1

1

Nov-

11

Jan-1

2

Mar-

12

May-

12

Jul-12

Sep-1

2

Nov-

12

Jan-1

3

Mar-

13

May-

13

Jul-13

Sep-1

3

Nov-

13

Jan-1

4

Mar-

14

May-

14

Jul-14

Sep-1

4

% y-o-y

CPI Retail WPI Linear Trend(CPI Retail) Linear (WPI)

-3.0

-1.0

1.0

3.0

5.0

7.0

Apr-14 May-14 Jun-14 Jul-14 Aug-14 Sep-14

US $ bn

Debt Equity Total

Negative value denotes the outflow

8.0

16.0

24.0

32.0

40.0

Jun-9

8

Apr-

99

Feb-0

0

Dec-

00

Oct

-01

Aug-0

2

Jun-0

3

Apr-

04

Feb-0

5

Dec-

05

Oct

-06

Aug-0

7

Jun-0

8

Apr-

09

Feb-1

0

Dec-

10

Oct

-11

Aug-1

2

Jun-1

3

Apr-

14

y-o-y %

3

All figures are monthly average

* Refers to End Period

Forecast Latest Period D&B's Comments

Dun & Bradstreet's Macro Economic Forecasts

Inflation W.P.I 2.5% - 2.7% Oct-14

2.38% Sept-14

Inflation C.P.I (I.W)

6.4% - 6.6% Oct-14

6.46% Sept-14

Exchange Rate

` v/s US$

61.20 - 61.40 Oct-14

60.86 Sept-14

I.I.P Growth 0.5% - 1.0% Sept-14

0.42% Aug-14

15-91 days T-Bills

8.4% - 8.6% Oct-14

8.48% Sept-14

10 year G-Sec Yield

8.5% - 8.7% Oct-14

8.53% Sept-14

Bank Credit*

GDP Growth 5.2%Forecast Q2 FY15

5.7%Latest Period

Q1 FY15

CPI and WPI inflation are likely to edge up, albeit marginally in Oct- 14. While a favourable statistical base will continue to play a role in tempering inflation till Dec -14, the start of the festival season may lead to some temporary uptick in prices of certain food items. Moreover, the substantial shortfall in production of various kharif crops (as per advance estimates) could lead to firming up of prices of cereals and pulses in the near term

Concerns regarding global economy will continue to weigh on rupee value during Oct-14. We expect the rupee to continue to be pressured owing to the strength of the US Dollar

Industrial production is likely to remain sluggish in Sep-14 as structural bottlenecks would continue to impede a meaningful recovery in the manufacturing sector. The adverse impact of uneven rainfall on crop production and rural incomes is likely to keep consumer goods production subdued in the near term. Deceleration in credit growth coupled with expected weak rural demand owing to erratic monsoon and substantial shortfall in production of various kharif crops point towards moderation in GDP growth during Q2 FY15

Yields in the gilts market are expected to remain range-bound during the month of Oct-14. While the fall in global crude oil prices is expected to lend support to bond yields, the fluctuations in domestic currency is likely to keep the market in a cautious mode

EconomyOutlook

9.7% - 9.9% Oct-14

9.72% Sept-14

© Copyright Dun & Bradstreet India (D&B);While D&B India endeavours to ensure accuracy of information, we do not accept any responsibility for any loss or damage to any person resulting from reliance on it.

Please send your feedback to Dr Arun Singh, Senior Economist.

Dun & Bradstreet Information Services India Pvt. Ltd., ICC Chambers, Saki Vihar Road, Powai, Mumbai 400 072. CIN - U74140MH1997PTC107813

Tel: 91-22-28574190 / 92 / 94 | Fax: 91-22-28572060 | Email: ArunS@mail.dnb.co.in | www.dnb.co.in

of more resources for developmental needs. However, with

expansionary fiscal policy undertaken in FY09 and FY10,

interest payments pre-empted around 47% of the net tax

revenue receipts of the Central Government in FY10. The

concerns have become more serious in recent years as the

interest rate-growth rate differential has gradually narrowed

down with a progressive move towards market

determination of yields on government debt issuances. The

average cost of borrowing has risen to 8.3% in FY14 from

7.6% in FY08. Higher interest rate causes the debt to grow

even faster, thereby making high debt ratios unstable

without any increase in the primary deficit. In FY14, the ratio

of interest payments to net tax revenue receipts stood at

45.5%, much higher than pre crisis level.

Is there an imminent risk?

The relatively long maturity of debt and its predominantly

fixed-coupon character point towards lower rollover risks,

and insulates the debt portfolio from interest rate volatility.

Marketable instruments (dated securities and treasury bills)

constitute about 80% of public debt. Majority of these

instruments are of fixed tenor and fixed rate. In recent years,

large unanticipated increase in deficit, compared to budget

estimates, has necessitated higher use of short-term debt to

fund the fiscal deficit. Notwithstanding an increase in the

share of short-term debt, it accounts for less than 10% of the

total public debt in India.

That said, in the event that the current phase of low growth

continues over the medium term in conjunction with high

inflation, it would weaken government debt ratios. Growth

slows down sharply when the government debt to GDP ratio

exceeds a certain threshold level. An RBI research Paper

reveals that there is a statistically significant non-linear

relationship between public debt and growth, implying a

negative impact of public debt on economic growth at higher

levels. The threshold level of general government debt-GDP

ratio for India has turned out to be 61%, i.e., the level

beyond which an inverse relationship is observed between

debt and growth. The actual level of debt at 66% in FY14 is

higher than this threshold level. The increased debt service

burden is therefore not sustainable in the long-term as it

would further reduce the fiscal space for economic

development. Moreover, if interest rates exceed the growth

rate of the economy, the debt dynamics could turn adverse -

more so in the absence of primary surpluses.

In order to safeguard against such a situation, it is pertinent

to strengthen the process of fiscal consolidation both at the

level of centre and states in the medium-term. Lowering the

interest burden could unlock more resources from current

revenue for productive purposes.

SpecialArticle

The build-up of Government debt and the accompanying

high-interest payments relative to revenue receipts have

generated large interest among policy makers in recent

years, particularly in the backdrop of high interest rate

environment. Rising interest payments add to government's

revenue expenditures, leaving less resource for use for

capital expenditure. Moreover, they are a drag on the

present generation as they reflect past consumption and do

not contribute to current productive uses and are primarily

tax financed.

Evolution of Public Debt

Public Debt (as a % to GDP, Central and State Government)

in India, which averaged 56% of GDP in the 1980s, rose to

an average of over 63% in the 1990s and climbed further to

touch a peak of 83.2% in FY04. The additional expenditure

liabilities were linked to the implementation of the Fifth Pay

Commission award as also sluggish revenue growth on

account of poor performance of public sector undertakings.

Since FY05- FY08, public debt witnessed a steady decline,

aided, in large part, by the FRBM Act 2003 of the central

government and similar fiscal responsibility legislations at

the state level. The reduction was also attributed to high

nominal GDP growth vis-à-vis incremental debt. There was a

marginal increase in debt-GDP ratio in the immediate

aftermath of the global financial crisis. Fiscal deficit went up

due to the counter cyclical measures undertaken by the

Government to stimulate Indian economy from the adverse

impact of global economic meltdown. As nominal GDP

moderated and borrowings spiked up, the public debt to

GDP ratio increased to 72.2% in FY09 from 71.4% in the

previous year. Thereafter, debt-GDP ratio has been on a

decline. However, since FY13, with the nominal GDP growth

in India falling below the growth in public debt, the debt-GDP

ratio is on an uptrend again and stood at 66.2% in FY14.

India's public debt-GDP ratio has, in general, been

significantly higher than the average for emerging markets,

developing Asia and advanced economies. Also in recent

years, India's capacity to support high levels of public debt is

constrained by its ability to raise revenues. Countries with

high debt-GDP ratio, such as, Brazil and Hungary have a

lower debt-revenue ratio than India.

Rising Interest Burden

The growing size of liabilities has eventually generated a

considerable debt-service burden and rising interest

payments. In FY02, over 80% of net tax revenue to the

Central Government was being used for meeting interest

payment commitments of past debt. However, with the

process of fiscal consolidation (during FY05 to FY08), this

percentage came down to about 38.9% in FY08. A part of

this owed to lower growth in interest payments vis-à-vis

nominal GDP growth. This correction helped in deployment

Interest Expense of Government