Private capex remains tepid for lack of wage growth that could boost demand

Economists for decades have constantly lamented that we are having too much revenue expenditure and not enough capital expenditure (capex). That complaint, at least, can be retired. In the past 11 years the Modi government has spent close to ₹54 trillion as capex, about ₹38 trillion after the pandemic. For three consecutive years, public investment has exceeded ₹11 trillion annually, poured into roads, railways, defence, water, and other forms of infrastructure. In FY25, the capital outlay accounted for 23 per cent of government spending — the highest in two decades. 

Surely this would have got us a big dividend, economic and non-economic: Faster connectivity; lower or stable infrastructure costs, leading to higher productivity and output; and competitiveness. Non-economic benefits would be cheaper and faster travel, better civic infrastructure, and water and power connections. Government spending would trickle down quickly and benefit the masses with more jobs and higher wages. Above all, the state’s heavy spending was expected to awaken a long dormant animal spirit: Private capital expenditure. 

No dearth of efforts  

That spirit, however, remains stubbornly asleep. Successive policy rounds have tried to rouse it — each with the same disappointing result. The government’s first diagnosis was that private investment had been held back by India’s festering problem of bad loans. Public-sector banks, burdened with dud assets from the previous Congress-led years, were too crippled to lend. The response was sweeping: Bad loans were written off, a bankruptcy code was enacted, and the system was purged of its rot — though few culprits were punished. But nobody asked business persons whether it was lack of money or poor demand that was holding them back from investing. Private capex remained weak.  

Next came tax cuts. In September 2019, amid flagging exports, a consumption slowdown, and a shadow-banking crisis, rates of corporation tax were dramatically slashed. It was textbook logic: Lower taxes would fatten profits and spur reinvestment. Again, nobody asked the obvious question — whether firms were held back by high taxes or by tepid demand. The result was the same: Private capex remained weak. In round three, the  government went further. Still believing in the private sector to be the main engine of growth, it launched a state-spending initiative, the production-linked incentive (PLI), designed to directly boost private capex. 

 

Finally, the state itself took up the mantle of boosting growth and employment through government capex, especially after the pandemic. Indeed, government capex has been the primary engine of investment growth since FY22. One assumption was now that the government has stepped forward with unprecedented largesse, private capex will follow. It did not. Stripped of PLI giveaway (806 applications and an investment of ₹1.76 trillion), private capex has remained subdued. 

Overall, government capex averaged 4.1 per cent of gross domestic product (GDP) over FY22-25, up from 2.8 per cent in the pre-pandemic days, while the share of private capex remained at around 2 per cent of GDP. It may be higher this year but no one expects it to sustain, given the trade troubles. Private participation in gross fixed capital formation (GCFC) fell to a low of 34.4 per cent in FY24 from peaks above 40 per cent pre-2016. To be sure, those earlier peaks were inflated by crony lending and scandal-ridden projects. Even so, after four major interventions — bank cleanups, tax cuts, subsidies, and state-led investment — private investment remains underwhelming. In FY25, capex will account for 23 per cent of government spending, reaching levels last seen in FY04. Back then, India experienced one of its strongest private-investment cycles. How did that happen and why are things so subdued this time?

 

For the past 15 years or more, I have watched economists at major brokerages wistfully predicting another private-capex boom like 2004-07. They would have been right only if the same causal factors were present, which is an unprecedented global and local boom. In those years, both the main engines of global growth — the United States (US) and Europe — were firing together. Pentup demand, after years of recession caused by the dotcom crash and 9/11 attack on the US, was supported by low-cost exports on a massive scale from China and a tidal wave of global savings mainly from Asia. It is Asian tigers, being highly export-competitive, who made the most of that demand boom. Apart from its own share of exports, India benefited from the massive inflow of capital from foreign investors pumping money not only into stock markets but, for the first time, into real estate. Capex and the consumption boom in 2004-07 were not due to some deft policymaking, nor was it due to entrepreneurship. It was a happy accident of global excess. When the global financial crisis struck in 2008, the tide went out. India never had genuine, large, and productive private capex.    

How to fix it? 

Policymakers continue to treat private investment as a supply-side puzzle, to be solved with cheaper capital, fiscal incentives, or government-led crowding in. The real constraint, however, lies with demand. Entrepreneurs invest when they see customers. India’s domestic demand remains weak because consumption is weak, since the real wages of the vast majority of people are not increasing. External demand offers no relief either: Exports are uncompetitive and the global trade winds unfavourable. I was publicly sceptical of government capex spurring growth. More than two years ago I had written “the heavy hand of the state has rolled the dice of growth. Let’s hope we get lucky with what the dice comes up with”. Luck, alas, is no policy. India’s investment  problem will not be solved until policy turns its gaze from the balance sheets of corporations to the income of its citizens. 

 

The writer is editor of www.moneylife.in and a trustee of the Moneylife Foundation; @Moneylifers