Gauging the impact of Omicron on the country's GDP though the MPC lens

There are varying estimates of the effects of Omicron on the gross domestic product (GDP) growth in the fourth quarter of the current financial year.

The estimates by some economists are in the 20-40 basis point range, while others say it is difficult to quantify the impact because of the developing situation.

Let us try to estimate the damage through the monetary policy committee (MPC) of RBI lens, or in other words, its growth projections at various times during the current financial year.

At the start of the year, the MPC was somewhat optimistic about the Indian economy, pegging its growth at 10.5 per cent for FY22. The second Covid wave dealt a body blow to this estimate and the Committee lowered the projections to 9.5 per cent in all its subsequent estimates. However, it altered quarterly estimates a number of times.

Advance estimates have now put the GDP growth at 9.2 per cent for FY22. Many economists still believe the National Statistical Office (NSO) has not fully taken the Omicron factor into account and the actual growth may come down lower.

For instance, Icra chief economist Aditi Nayar believes that the widening restrictions triggered by Omicron will thwart the nascent recovery in the contact-intensive services, notwithstanding the widening vaccine coverage. She says there would be a mild downside to her FY22 GDP growth forecast of nine per cent.

If advance estimates come true, actual GDP growth would be short of the latest MPC's projections by 30 basis points. But if Icra estimates prove correct, MPC's projections would be higher by at least 50 basis points.

It should be noted that the Committee's projection of 9.5 per cent for GDP growth for all of 2021-22 came even after it assessed the impact of the second Covid-wave induced lockdowns. As such, it had revised down its projection for GDP growth rate to 18.5 per cent for Q1 in its June projections from 26.2 per cent in its April assessment. However, MPC in its August policy review found that its July projection for Q1 was a bit pessimistic and revised it up to 21.4 per cent.

The actual number for Q1 GDP growth was 130 basis points lower than MPC's August projections. It was 20.1 per cent. So, if one sees the second wave impact on the first quarter of GDP from what MPC projected in its April assessment and what actually came out to be, the hit was a massive 610 basis points.

Now, it is widely accepted that the Omicron spread would impact the ongoing quarter but it would be much softer than that of the second wave on the first quarter of the current fiscal.

While MPC had lowered its forecast of GDP growth numbers in its July review to 9.5 per cent for the entire financial year from 10.5 per cent in the April review, it had in fact raised its projections for Q4 to 6.6 per cent from 6.2 per cent. However, while MPC retained the growth projections at 9.5 per cent for the entire financial year subsequently, it lowered its projections for Q4. Its latest number stood at six per cent for Q4, quite close to its April projections.

In its latest review in early December, MPC recognised the downside risks to the outlook on growth from the emergence of Omicron and renewed surges of Covid-19 infections in a number of countries. Besides, it had said notwithstanding some recent corrections, headwinds continue to be posed by elevated international energy and commodity prices, potential volatility in global financial markets due to a faster normalisation of monetary policy in advanced economies, and prolonged global supply bottlenecks.  

So, it was aware of the impact of Omicron when it had made the  forecast of six per cent GDP growth for Q4, though the effect may have been accentuated later.  

If advance estimates come true, GDP would grow 5.6 per cent in the second half, comprising Q3 and Q4 of the current financial year, since it grew 13.7 per cent in the first half, comprising 20.1 per cent in the first quarter and 8.4 per cent in the second.

If Q3 GDP growth turns out to be what MPC had estimated in its December review -- 6.6 per cent -- the economic growth in Q4 would be 4.7 per cent. If there is some correction, say Q3 GDP growth falls to six per cent, the economic growth would be 5.2 per cent in Q4.

GDP growth in the range of 4.7-5.2 per cent would mean a massive hit from Omicron and other developments. It would mean 80-130 basis point hits from what MPC had estimated in its latest projections. This implied that MPC might have substantially erred in its projections for Q4 GDP growth on the higher side.