The index of industrial production (IIP) has posted a growth rate of 11.7 per cent in November 2009. For the past three months, the IIP has registered an average growth rate of above 10 per cent. This pace was stronger than expected, and instills confidence that it will continue to rise at this pace well into next year. What is important about this revival of industrial growth is that it is also broad-based. The growth revival is across categories like transport equipment, metal products, textiles and even mining, which has grown at double-digit rates in November. This should bode well for both oil and coal availability. From a use-based perspective, consumer spending continues to gain strength both in durables and non-durables. Growth is strongest in the consumer durables segment, although that segment was the worst hit last year, so we do have a base effect. The auto sector has bounced back spectacularly. According to automobile industry sources, the sector grew by 17 per cent during 2009, with more than a million vehicles being sold in December 2009 alone. This amounts to a growth of 68 per cent for that month. This alone could push December’s IIP into double digits. In short, Indian industry seems to be on the road to better performance.
While India didn’t have any cash-for-clunkers stimulus, it is clear that the fiscal stimulus of lowering excise duty from 14 to 8 per cent had a big role to play in this industrial recovery. The key question is whether this growth has paced itself into escape velocity, i.e., whether it no longer needs the fiscal support of lowered excise. Since the auto sector has a significant output and employment multiplier, it may be prudent to delay withdrawal of stimulus. The health of auto, construction and retail is a good barometer of things to come. Private consumer spending has revived from low growth of 1.5 per cent to 5.6 per cent in last two quarters, but yet a firm signal to end fiscal stimulus is lacking. On the other hand, the case for exit of monetary stimulus is sealed. With such strong data on demand as well as growth, and continuing high inflation and liquidity, monetary tightening is virtually certain. Most likely it will be sequenced as an initial liquidity tightening in the form of a higher cash reserve ratio, followed by a modest hike in interest rates. Average interest rates have remained benign for the past five years, since the benchmark yield on 10-year government bond remained below 8 per cent.
Just as fiscal authorities are advised forbearance about exiting fiscal stimulus, monetary authorities too may want to keep an eye on not breaching the high watermark of 8 per cent. This means a careful navigation between avoiding high inflationary expectations and keeping interest rates moderate. Going beyond monetary and fiscal policy, the government can do more to sustain the industrial recovery under way by speeding up infrastructure development and pushing for reform in labour markets. The multiplier effects of infrastructure development for industrial growth can be quite substantial.