savings and investment in india

SAVINGS AND INVESTMENT SAVINGS AND INVESTMENT ININ

INDIAN ECONOMY INDIAN ECONOMY

SAVINGS AND INVESTMENTSAVINGS AND INVESTMENT

Savings and Investment are necessary Savings and Investment are necessary requirements for development of any requirements for development of any economy. economy.

Savings originate from income and the financial Savings originate from income and the financial intermediaries transfer them to investors. intermediaries transfer them to investors.

Investors use them for capital formation. Capital Investors use them for capital formation. Capital formation in turn generates a stream of formation in turn generates a stream of income apart of which is saved.income apart of which is saved.


In terms of macroeconomic presentation, In terms of macroeconomic presentation,

GDP=Consumption (C) + Savings (S) + Govt. GDP=Consumption (C) + Savings (S) + Govt. Exp (G) -Taxes (T)Exp (G) -Taxes (T)

GNP=C+S+G-T+ Exports (X) –Imports (M)GNP=C+S+G-T+ Exports (X) –Imports (M)

GDP= C + Investment (I) + G –TGDP= C + Investment (I) + G –T

GNP=C+I+G -T+X-MGNP=C+I+G -T+X-M


Further, it has been proved that the growth rate of Further, it has been proved that the growth rate of GDP (dGDP/GDP) is dependent of the capital-GDP (dGDP/GDP) is dependent of the capital-output ratio (k) so that, output ratio (k) so that,

dGDP/GDP=S/k=I/k. dGDP/GDP=S/k=I/k. Savings depend upon GNP and interest rate (r). Savings depend upon GNP and interest rate (r). Investment depends upon expected rate of profit (EF) Investment depends upon expected rate of profit (EF)

and interest rate. and interest rate.

That is …………I=f (EF,r)That is …………I=f (EF,r)Therefore, ……………dI=f (dEF, dr).Therefore, ……………dI=f (dEF, dr).

SAVINGS AND INVESTMENTSAVINGS AND INVESTMENTIn India savings rate was underestimated for long time and In India savings rate was underestimated for long time and

when it was corrected, the planners realized that Indian when it was corrected, the planners realized that Indian economy generated impressive rate of savings. The ratio of economy generated impressive rate of savings. The ratio of savings and investments and saving investment gap is savings and investments and saving investment gap is presented in presented in Table 1.5, components of domestic savings in Table 1.5, components of domestic savings in table 1.6 table 1.6

However, investment, that is capital formation, was not However, investment, that is capital formation, was not adequate to achieve higher growth rate of GDP. This was adequate to achieve higher growth rate of GDP. This was mainly because of low efficiency in the use of capital. In other mainly because of low efficiency in the use of capital. In other words, the amount of capital required to produce one unit of words, the amount of capital required to produce one unit of output or GDP is called capital-output ratio. output or GDP is called capital-output ratio. Inefficiency of Inefficiency of capital use indicates high capital output ratio.capital use indicates high capital output ratio.

In other words, in order to achieve high growth rate of output or In other words, in order to achieve high growth rate of output or GDP, we need to mobilize higher savings and use lower GDP, we need to mobilize higher savings and use lower amount of capital.amount of capital.


In India capital output ratio has been hovering In India capital output ratio has been hovering around 4. It is lower in agriculture which around 4. It is lower in agriculture which ranges from 1 to 2, higher in manufacturing ranges from 1 to 2, higher in manufacturing where it ranges from 3.5 to 4.5 and more or where it ranges from 3.5 to 4.5 and more or less the same in service sector. High level of less the same in service sector. High level of capital coefficient is considered as one of the capital coefficient is considered as one of the reasons for low GDP growth rate in India.reasons for low GDP growth rate in India.

COMPOSITION OF SAVINGS AND COMPOSITION OF SAVINGS AND INVESTMENTINVESTMENT

Savings are made by households, corporate Savings are made by households, corporate entities and government & its enterprises entities and government & its enterprises and agencies. Savings are made in physical and agencies. Savings are made in physical and financial assets.and financial assets.

In India households generate almost 90 per In India households generate almost 90 per cent of the country’s savings and the cent of the country’s savings and the corporate sector and government borrow corporate sector and government borrow from households and undertake investment. from households and undertake investment. This may seen in the table.This may seen in the table.


What is more, the composition of savings have been What is more, the composition of savings have been changing from land and such other physical assets to changing from land and such other physical assets to financial savings which have enabled the corporate financial savings which have enabled the corporate sector and the government to borrow for undertaking sector and the government to borrow for undertaking investment.investment.

Investment can be made in physical assets which are Investment can be made in physical assets which are used as means of production, in financial assets used as means of production, in financial assets which only transfer entitlements from the savers to which only transfer entitlements from the savers to the investors, in non-productive physical assets like the investors, in non-productive physical assets like residential buildings, gold and other precious metals residential buildings, gold and other precious metals and in human capital, that is by investing in and in human capital, that is by investing in education to train the labour in productive skills education to train the labour in productive skills which generate higher income in future.which generate higher income in future.


In India savings are made in financial assets as In India savings are made in financial assets as well as in physical assets. But the proportion of well as in physical assets. But the proportion of savings in unproductive assets has been more savings in unproductive assets has been more than in productive assets though in recent than in productive assets though in recent years but this tendency is changing.years but this tendency is changing.

Likewise, until recently, the proportion of Likewise, until recently, the proportion of unproductive investment was more in India unproductive investment was more in India which reduced the availability of capital for which reduced the availability of capital for productive investments.productive investments.


Apart from the normal scarcity of capital funds in a developing Apart from the normal scarcity of capital funds in a developing economy, the scale of productive investment undertaken in economy, the scale of productive investment undertaken in India has been so high that it could not be entirely financed India has been so high that it could not be entirely financed by domestic savings. by domestic savings.

Therefore, India had to Therefore, India had to borrow funds from foreign governments borrow funds from foreign governments and international funding institutions like World Bank, IMF and international funding institutions like World Bank, IMF and ADBand ADB. Even these borrowed funds became inadequate to . Even these borrowed funds became inadequate to meet the galloping rate of growth of investment in the wake of meet the galloping rate of growth of investment in the wake of economic liberalization. economic liberalization.

Hence Hence foreign direct investment (FDI)foreign direct investment (FDI) has been allowed in has been allowed in infrastructure projects like airports, ports and in infrastructure projects like airports, ports and in manufacturing sphere.manufacturing sphere.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS A notable feature of the recent GDP growth has been a A notable feature of the recent GDP growth has been a

sharply rising trend in gross domestic investment and saving, sharply rising trend in gross domestic investment and saving, with the former rising by 13.1 per cent of GDP and the latter with the former rising by 13.1 per cent of GDP and the latter by 11.3 per cent of GDP over five years till 2006-07. by 11.3 per cent of GDP over five years till 2006-07.

The improved investment climate and strong macro The improved investment climate and strong macro fundamentals also led to an upsurge in foreign direct fundamentals also led to an upsurge in foreign direct investment. The combined effect of these factors was reflected investment. The combined effect of these factors was reflected in an increase in the investment rate from 25.2 per cent of in an increase in the investment rate from 25.2 per cent of GDP in the first year of the Tenth Five Year Plan to 35.9 per GDP in the first year of the Tenth Five Year Plan to 35.9 per cent of GDP in the last year. cent of GDP in the last year.

The higher investment was able to absorb the domestic The higher investment was able to absorb the domestic savings and also generated an appetite for absorption of savings and also generated an appetite for absorption of capital inflows from abroad.capital inflows from abroad.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS

SAVINGS:SAVINGS: Gross domestic savings as a proportion of GDP Gross domestic savings as a proportion of GDP

continued to improve, rising from 26.4 per cent continued to improve, rising from 26.4 per cent in 2002-03 to 34.8 per cent in 2006-07 with an in 2002-03 to 34.8 per cent in 2006-07 with an average of 31.4 per cent during the Tenth Five average of 31.4 per cent during the Tenth Five Year Plan.Year Plan.

The savings-investment gap which remained The savings-investment gap which remained

positive during 2001-04 became negative positive during 2001-04 became negative thereafter. thereafter.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS Both private and public savings have contributed Both private and public savings have contributed

to higher overall savings. Private savings have to higher overall savings. Private savings have risen by 6.1 per cent points of GDP over the risen by 6.1 per cent points of GDP over the Tenth Five Year Plan period while public sector Tenth Five Year Plan period while public sector savings increased by 5.2 per cent of GDP. savings increased by 5.2 per cent of GDP.

The increase in private savings is due to a (more The increase in private savings is due to a (more than) doubling of the rate of corporate saving than) doubling of the rate of corporate saving over the plan period. Savings of the household over the plan period. Savings of the household sector were stable at 23 to 24 per cent of GDP, sector were stable at 23 to 24 per cent of GDP, averaging 23.7 per cent during the Tenth Five averaging 23.7 per cent during the Tenth Five Year Plan. Year Plan.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS INVESTMENTS:INVESTMENTS: In contrast to the increase in savings the increase In contrast to the increase in savings the increase

in investment has been driven by private in investment has been driven by private investment, which went up by 10.3 per cent of investment, which went up by 10.3 per cent of GDP over the five years of the Tenth Five Year GDP over the five years of the Tenth Five Year Plan. This improvement was in turn driven by Plan. This improvement was in turn driven by private corporate investment, which increased by private corporate investment, which increased by 9.1 per cent of GDP over these five years. 9.1 per cent of GDP over these five years.

Private corporate sector investment improved from Private corporate sector investment improved from 5.4 per cent of GDP in 2001-02 to 14.5 per cent in 5.4 per cent of GDP in 2001-02 to 14.5 per cent in 2006- 07. 2006- 07.

RECENT DEVELOPMENTSRECENT DEVELOPMENTSSectoral Investment and Incremental Capital Output Ratio Sectoral Investment and Incremental Capital Output Ratio

(ICOR):(ICOR):

It is useful to examine the growth of gross capital formation It is useful to examine the growth of gross capital formation (investment) by sectors to see how much of the sector’s growth (investment) by sectors to see how much of the sector’s growth has been associated with expansion of capacity. has been associated with expansion of capacity.

Gross capital formation in manufacturing grew at a Gross capital formation in manufacturing grew at a phenomenal 33.6 per cent per annum during the Tenth Five phenomenal 33.6 per cent per annum during the Tenth Five Year Plan period, the highest growth rate of any sector. Year Plan period, the highest growth rate of any sector.

This confirms that the boom in manufacturing growth rate is This confirms that the boom in manufacturing growth rate is higher than for total GDP, which is backed by solid build up higher than for total GDP, which is backed by solid build up of capacity. The fact that the calculated ICOR for this period of capacity. The fact that the calculated ICOR for this period at 8.9 is the second highest after electricity suggests that there at 8.9 is the second highest after electricity suggests that there may be some build up of capacity ahead of and in anticipation may be some build up of capacity ahead of and in anticipation of demand.of demand.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS Trade & hotels, with an annual growth of 26.4 per cent Trade & hotels, with an annual growth of 26.4 per cent

during the five years of the Tenth Five Year Plan, was during the five years of the Tenth Five Year Plan, was the third fastest investor. With its very low ICOR of 0.7, the third fastest investor. With its very low ICOR of 0.7, it can play a vital role in generating higher employment it can play a vital role in generating higher employment with relatively low investment along with the with relatively low investment along with the construction sectorconstruction sector (with the third lowest ICOR). (with the third lowest ICOR).

Communication,Communication, a very fast growing sector in terms of a very fast growing sector in terms of value added, had the lowest ICOR of 0.6, confirming value added, had the lowest ICOR of 0.6, confirming that competition-induced productivity growth has played that competition-induced productivity growth has played a key role in this reasonably well regulated sector. a key role in this reasonably well regulated sector.

RECENT DEVELOPMENTSRECENT DEVELOPMENTS The traditionally high ICOR of 16.7 for the The traditionally high ICOR of 16.7 for the

electricity sector re-emphasizes the critical electricity sector re-emphasizes the critical importance of efficient planning and importance of efficient planning and implementation of capacity building as well as implementation of capacity building as well as efficient use of this capacity and of the electricity efficient use of this capacity and of the electricity produced from it. produced from it.

Railways and other transport and other services Railways and other transport and other services were the remaining sectors in which GCF growth were the remaining sectors in which GCF growth exceeded 15 per cent exceeded 15 per cent

savings and investment in india

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