A great first half

The Index of Industrial Production for September, released last Friday, provides yet another indication that the economy is on a faster growth track than most projections would have us believe. The overall index, comprising mining, manufacturing and electricity, rose by 11.4 per cent over September 2005. There is a mild base effect at work here, since growth in September 2005 was (only!) 7.2 per cent, significantly below the year's trend. But, looking at the numbers for the first half of 2006-07, i.e. April-September, the overall index grew by 10.9 per cent, compared with 8.5 per cent in the previous year. This is less base effect and more genuine acceleration. Even more heartening is the fact that the manufacturing sector, accounting for about 80 per cent of the index, grew by 12.1 per cent during the first half of 2006-07, compared with a respectable 9.5 per cent last year. This year, mining and electricity too have contributed their bit to the acceleration.

Most of the segments under the use-based classification of manufacturing industries have bettered their performance of last year. Intermediate goods increased their growth rate from 3.1 per cent to 10.8 per cent, while consumer durables growth went up from 13.4 per cent to 15.9 per cent. Basic goods also accelerated moderately from 6.2 per cent to 8.8 per cent. Consumer non-durables dropped from 13.4 per cent to 10.1 per cent, while capital goods, a very significant contributor to growth over the last couple of years and reflecting a sustained increase in productive capacity in the economy, dropped marginally from 15.6 per cent to 15.2 per cent. This is the result of a sharp drop in the growth of the capital goods segment in September, when it grew by a mere 2.2 per cent. Much of this deceleration is explained by a sharp spike in September 2005, when the growth rate was 22.8 per cent, but the decline seems more than the base effect would warrant. It is too early to view this as a turn in the investment cycle, but it is a pattern that bears watching in the coming months. Given abnormally high growth in this segment in October 2005 as well, this pattern can be expected to persist into the next data release.

Several implications follow from this strong first-half performance by industry. It is now almost certain that the second quarter GDP (July-September) growth numbers will be close to, if not more than, the first quarter benchmark of 8.9 per cent. Given this, forecasters who have not already upped their numbers for 2006-07 beyond 8 per cent, will probably do so, including the one of the Reserve Bank of India (RBI), which is now at 8 per cent. It has been a consistent feature of recent quarters that the forecasters have been shown to be too cautious when projecting growth; perhaps it is time they revised their forecasting models.

If the present momentum continues to show up in the October and November numbers, which will be the latest that the RBI will have before the January monetary policy announcement, a more conventional interest rate hike looks quite likely. This is despite the moderation in inflation that has been seen in recent weeks. Finally, the revenue buoyancy that accompanies such growth will make it quite easy for the finance ministry to do better than the deficit reduction target for the year, particularly the obstinate revenue deficit.