What killed our boom
June 27, 2012 Ashok V. Desai,consulting editor of The Telegraphand chief consultant to the finance minister when Manmohan Singh launched the economic reforms, takes a deep dive into statistics to figure out what is wrong with the economy as Pranab Mukherjee leaves the finance ministry and Singh takes charge
The growth rate of gross domestic product is reported to have come down. What does that mean? Before the question can be answered, I need to go into some obscure administrative details.
The central statistical office is the sole custodian of national accounts statistics. Punctually on the last day of February, May, August and November, it releases figures which are exactly two months old; for instance, on 31 August, it will release figures for the second quarter of 2012 — April-June — although for a reason lost in history, it prefers to call it the first quarter of 2012-13. Together with the figures for the last quarter — that is, January-March — the CSO also releases consolidated figures for the entire financial year running from the previous April to March.
The reason is that from British times, the budget has been presented on the last day of February, and refers to the year about to begin on the following 1 April. (Before readers rush in to point out that all budgets are not presented on 1 April, let me clarify that these are regular budgets; in addition the finance minister may present an interim budget on any other day. And conversely, if general elections are scheduled soon after 31 March, a finance minister may present an interim budget on that date, and the finance minister of the new government may then present a more final budget after he is appointed.)
Because the government’s financial year runs from April to March, all figures related to it are available for the financial year. So are figures for all taxable businesses and persons, since they are required to pay tax on their income in the financial year. So a good many figures are available for April-March, and it is convenient for the CSO to make up national accounts for it.
According to the CSO’s latest press note, growth of gross domestic product came down from 8.4 per cent in 2010-11 to 6.5 per cent in 2011-12, and from 9.2 per cent in the last quarter of 2010-11 to 5.3 per cent in the last quarter of 2011-12 (that is, between the first quarter of 2011 and of 2012). That is a big and rapid fall; why did it occur?
It may have been just an accident. For instance, rains may have been delayed, crops may have been harvested late, and the resulting rise in harvest may have been recorded in different quarters in the two years. Or, businesses may have found that their stocks had piled up, and reduced production to reduce stocks. That is why CSO takes the change between the same quarter of successive years, and not between two successive quarters.
But that does not quite eliminate accidental changes. I use a different method. I add up figures for four successive quarters; that gives me figures for a year at a time, ending in different quarters.
Then I take the change between two years ending in successive quarters. Annual figures are less susceptible to accidents, so my method eliminates half of the risk; the other half, residing in the last quarterly figures, cannot be removed.
My way of calculation shows a fall from 8.3 to 6.6 per cent between the financial years 2010-11 and 2011-12, and from 8.4 to 6.5 per cent between the first quarters of 2011 and 2012. The decline is 1.9 per cent annual and 3.9 per cent quarterly in the official method of calculation, and 1.7 per cent annual and 1.9 per cent quarterly according to my way. So I suspect that the huge fall in the official quarterly figures is largely accidental and will reverse itself later; but I agree that growth has slowed down.
Why has it slowed down? Figures 1 to 9, embodying growth rates calculated my way, show the slowdown (or lack of it) in different components of GDP. They leave no room for doubt: the slowdown originates in industry — that is, in manufacturing and mining.
I shall ignore year-to-year changes, which are just an average of quarterly changes. Between the first quarters of 2011 and 2012, growth according to me slowed down from 7.6 to 2.5 per cent in manufacturing, and from 5 to -0.9 per cent in mining; in other words, value added in mining in 2012Q1 was actually lower than in 2011Q1. It came down from 7 to 2.8 per cent in agriculture, and from 8 to 5.3 per cent in construction; these sectors also contributed to the slowdown. So statistically, they were partly responsible. But the root cause of the general slowdown was a serious industrial recession.
Why did industry go into a spin? Here it is no use following the method I devised in the case of GDP. The output of most industries in the two years to March 2012 doubled, plus or minus 10 per cent; such growth figures between two points of time cannot show which industries have declined fastest.
One needs to look more closely at the time path of growth and decline. The industry that shows the most consistent decline in growth is machinery; this industry, which was growing at more than 40 per cent in the beginning of 2010, has more or less stopped growing.
The growth of electrical equipment was always unstable. For short periods it grew at close to 40 per cent; but its output has been on decline in recent months. Metal products are still showing good growth, but it has clearly come down. Plastics show a consistent fall in growth from 25 per cent in early 2010 to 5 per cent now. Chemicals never grew fast, but their growth has also come down. In brief, it is capital goods that are leading the recession. There was an investment boom in 2005-2009; it came to an end, and its end heralded the end of the boom.
Why did it end? As I will show below, it was probably not lack of demand. After a four-year investment boom, there could not have been a lack of capacity either. The explanation must lie in financial figures: costs rose, and profits fell. The spike in oil was one factor. Cost of living and wage increases were another.
I have often written about the present government’s penchant for inflationary deficit financing and raising of foodgrain prices; that taste for inflation has a negative side in its growth effects. There is a side story in textiles; a bumper crop, together with floods in Pakistan, gave the industry a tremendous boost last year, which has now come to an end. But the main story relates to investment.
I cannot confirm this story from figures of gross domestic expenditure (GDE), for the CSO has not published figures that go back enough. But I have been able to construct the picture from the beginning of 2010, which is roughly when the current slowdown started; it is given in figures 10-15. GDE shows no signs of slowing down in 2010; throughout the year it continued to grow at more than 9 per cent. Growth rates of both consumption and investment continued to rise till the end of 2010.
That is why I think that the slowdown was initially not due to deficient demand. But the story has changed in the last two quarters; one sees investment hardly growing, and prices of investment goods falling. Now we have a real investment slump. As domestic demand slackened, export growth picked up, and import growth came down. And the slump gave the government a reason to indulge in its favourite addiction, namely deficit finance, which is seen in the last figure.
When and how will this slowdown end? It began with cost inflation and squeeze on margins in industry; then it was reinforced by a demand crisis. Demand-led crises end when the economy grows enough to absorb the surplus capacity. Investment rates were extremely high in the boom years; so I expect capacity absorption to take some time — let us say, another two to three years.
I can say nothing about the cost crisis without access to corporate and business accounts. Oil and commodities no doubt played a part, but I do not think they are the entire story. India today presents a fascinating economic case study, but those in government whom it should interest do not show the analytical acumen. I, who am transfixed by it, must get on with the next column.