Erratic growth pattern

The November 2007 numbers for the Index of Industrial Production (IIP), released last Friday, came in far below expectations. From July, the index has followed a see-saw pattern, growing rather slowly in one month and accelerating sharply in the next. Given this, after October's rather impressive growth of 11.8 per cent, a deceleration would not have come as a surprise. However, the growth rate of 5.3 per cent took the amplitude of the see-saw up several notches. This growth rate is the slowest since October 2006, which saw a significant movement against trend to register 4.5 per cent growth. Further, it is the third slowest monthly growth rate in the last three fiscal years. Does this mean that a slowdown is finally upon us?

At an aggregate level, if the see-saw pattern continues, the December numbers will show a bounce-back. This is precisely what happened in November 2006, when, after the slump in the preceding month, the growth rate surged to over 15 per cent. From this perspective, there is a significant base effect, which has pushed this November's growth rate down. However, it must also be taken into account that the macro-economic circumstances today are more uncertain, and a sharp deceleration even after adjusting for the high base is more likely to be indicative of a pattern than just a one-off aberration.

Some insight into this is provided by the growth rates across different industrial segments. The impact of higher interest rates on demand for manufactured goods is reflected in the relatively poor performance of consumer durables and transportation equipment, both of which have been fuelled by low-cost borrowing in recent years. The former declined by 4.1 per cent in November, taking its growth rate over the April-November 2007 period to (-)1.7 per cent. The latter declined by 0.7 per cent in November, restricting its growth rate over the April-November period to a mere 2.7 period. Other significant sectors that actually declined during November were food products (15.1 per cent) and metal products (5.7 per cent). Reassuringly, machinery and equipment, a segment that obviously correlates with investment levels in the economy, although it slowed slightly, sustained its generally robust performance, growing by 11.2 per cent during November, taking its growth over the April-November to a happy 12.2 per cent. This pattern suggests that, even as the performance of interest-sensitive segments has moderated, investment activity is being driven by a strong growth trend with a horizon beyond the immediate business cycle. Finally, sectors like textile products and leather products, with a significant export presence, while not growing spectacularly, appear not to have done too badly despite significant rupee appreciation. Leather, in particular, grew by over 12 per cent during the April-November period.

What does this mean for the monetary policy announcement coming up at the end of this month? Almost certainly, an end to interest rate hikes, although continuing capital inflows could still induce a hike in the cash reserve ratio (CRR). The inflation rate, even after accounting for a potential hike in prices of petroleum products, is not threatening enough to cause too many concerns about excessive liquidity, which may then go in favour of holding steady on the CRR as well. Subsequent announcements in 2008 are increasingly likely to see a reversal of the policy stance.