Saurabh Mukherjea
While we have been optimistic about India's growth prospects through the darkest days of the credit crisis, we are surprised by the current thought that a robust recovery is under way. Contrary to popular perception, the economic recovery, so far, has been driven only by a few sectors, such as mining and manufacturing, capital goods and consumer durables. The other factor that has propelled recovery is heavy public spending, which is likely to account for 2.5 per cent of the 7.5 per cent gross domestic product (GDP) growth that is expected in the second half of 2009-10. However, this is already coming under pressure. Nearly half the sectors in the index of industrial production (IIP), including electricity, consumer nondurables, basic goods and exportoriented sectors, have not participated in the recovery. At a fairly critical juncture, when capital expenditure still hasn't increased and credit offtake is close to its 10-year lows, this recovery has run into a triple whammy of inflation, monetary squeeze and fiscal tightening.
The current bout of inflation is led by a rise in food prices. However, as commodity prices skyrocket globally, the effect will ripple through the supply chain and food price inflation in India, leading to wage hikes and, subsequently, price hikes by manufacturers. We expect the overall wholesale price index (WPI) inflation to rise from the current 7.3 per cent to about 10 per cent by the end of 2009-10. Due to its limited fiscal fire power to absorb inflation, the government has put the onus for reducing prices on the RBI, which may act when credit offtake improves.
The fiscal policy withdrawal has already set in and will imply a greater squeeze on the GDP growth than the forthcoming monetary tightening. This is because the impact of rolling back tax concessions and expenditure cuts is immediate as opposed to the time lag associated with the monetary policy. The stimulus withdrawal has begun to take effect as the slowing down of revenue is constraining the capacity of the government to provide an expenditure boost.
Implications for sectors
Here are some sectors likely to be affected by budgetary squeeze, inflation and monetary tightening.
Fast-moving consumer goods: The FMCG sector will suffer from margin pressure due to rising input costs. Also, cuts in public expenditure could adversely impact the spending capacity of low-income and rural customers, who make up 50 per cent of the FMCG customer base.
Consumer durables: For big-ticket items such as white goods, besides the rising input costs, the increase in indirect taxes will exert a drag due to the magnitude of the absolute price rise. The rising interest rates will also make it more costly for consumers to borrow and buy.
Banks: While economic recovery should help banks in terms of credit growth and quality, the rising long-term bond yields may generate mark-to-market concerns, particularly for public sector banks.
Saurabh Mukherjea is Head (Indian Equities), Noble Group.
