Industry efficiency improves but new orders dip, show RBI surveys

Capacity utilisation in manufacturing rose to a 23-quarter high of 75.9% in October-December 2018

As the economy slowed in successive quarters in the last financial year, the manufacturing sector witnessed an interesting trend in the third quarter (Q3). While the efficiency of industrial activity rose to its best in the past six years in Q3, industry’s investment appetite showed the sharpest fall ever measured, latest results from the Reserve Bank of India (RBI) surveys show.

Capacity utilisation (CU) in manufacturing rose to a 23-quarter high at 75.9 per cent in October-December 2018. Only in the last quarter of 2012-13, a better utilisation of 78 per cent was recorded, according to Order Books, Inventories and Capacity Utilisation Survey (OBICUS).

At the same time, new orders placed by manufacturing companies contracted by 11 per cent in Oct-Dec 2018, the sharpest fall since the 2008 financial crisis. While the CU survey samples nearly 900 companies, the order books survey samples 100 companies in the corporate sector.

Industry players and experts told Business Standard that though aggregate demand is rising, it is not of “investment grade”. Rising demand would be catered to by increasing the efficiency in existing capacity, and by release of stuck capacity via insolvency processes, rather than capacity addition. They also said consumption patterns in the economy could have plateaued or settled down on a new lower normal.

“Deleveraging of the private corporate sector is underway. The IBC processes are releasing capacity that was stuck in insolvency, thereby reducing the requirement for new capacity,” said D K Joshi, chief economist at Crisil.  

CU had remained low for successive quarters in FY17 and FY18. Usually, its peak in a financial year occurs in the last quarter, previous years’ data shows. Bucking the trend, CU in Q3 of FY19 has trumped that recorded in the last 22 quarters.

New orders grew sharply after demonetisation, with the third quarter of FY18 showing a 77 per cent jump. Experts said a contraction after a boom indicates that the industry is not ready for new capacity now.  

Sources from the capital goods industry said orders finalised in Q4 of FY19 have not been encouraging. “The current demand is not of investment grade. Even if there is a further demand push in the economy, it is unlikely to drive new capacity addition,” M S Unnikrishnan, MD and CEO, Thermax, said.

Experts also said while some sectors have been pushing up the overall CU, some are performing below the industry average. Power and fertiliser sectors are not doing well in terms of using the nameplate capacity efficiently.

Cement, along with paper, aluminium and steel, are doing better, they said. Data from Holtec consulting shows that CU in the cement sector is above the general trend. It was 75 per cent in FY18, while it has touched 80 per cent in FY19, five percentage points above the average.

Pronab Sen, an economist and a former chief statistician of India, said though CU is at its peak, it is not clear if the new orders are falling due to lower requirement of capacity, or due to technological advances in existing capacity which makes it more efficient.

However, saying that order books broadly indicate aggregate demand, he said the fall in them suggests slow growth in consumption. He said the disruptive impact of demonetisation and goods and services tax (GST) has a lot to do with this trend.

He also said the MSME sector, which is recovering from the twin impact, might have made a comeback, resulting in a relative drop in orders from the corporate sector. The RBI surveys measure only the latter.

The RBI’s monetary policy committee, in its recent statement, noted a “significant moderation” in economic activity based on high frequency indicators such as auto production and sales, port traffic, etc. It also noted that production of capital goods contracted in January, while their imports contracted in February.

In another befuddling trend, while consumer confidence was the highest seen since demonetisation, business expectations for the current first quarter of FY20 dropped to a seven-quarter low, shows the RBI survey data.