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2. Special Feature
16 www.finance-monthly.com
The Indian economy has seen its share of pressure during the last year or so, as headwinds which
impacted in FY 2012 (Apr 2011-Mar 2012), continued to pose a downside risk in FY 2013 and FY 2014
till date. Reviving the growth rate is a major challenge confronting policy makers as GDP growth,
which hovered around the 7-9% mark per annum in recent years, fell below ~6.5% in FY 2012 and is
~5% in FY 2013 - the lowest in the decade. Widening current account deficit, inflation, manufacturing
and services slowdown, fiscal pressures, policy slowdown and the pressure on the Indian Rupee (INR)
are major concerns. However, returning to historical growth rates is imperative for a country of this
magnitude. Amongst all the negative news-flow, there were few positive ones as well, especially in
the second half of the year. Easing in manufacturing inflation/WPI, some action on the reforms front,
as well as regulatory changes to increase savings flows triggered short bursts of optimism.
EConomIC
PErSPECtIvES
By Sourajit Aiyer
Catching up on the India Story

3. Economic Perspectives: India
licing into GDP segments, agriculture
GDP growth was impacted in FY 2013
mainly due to less than normal
monsoon rains. The overall slowdown
in the industrial output hit
manufacturing GDP growth. India story’s biggest
driver and the largest piece of its GDP – the
Services sector, also saw moderation. This
segment has been one of the major contributors
to the overall slowdown in GDP, of late. Services
segment growth was largely impacted by the
trade, hotel, transport sector (comprises almost
half of Services pie), as these activities are linked
to the first two segments, viz industrial and
agriculture.
Inflation has been a pain in recent months, owing
to price trends in global crude, precious metals,
commodities, electricity tariff hikes, supply side
inefficiencies, changes in the diet towards
protein and better cereal variants, revision of
agriculture product MSPs (minimum support
price). WPI (Wholesale price index) was over ~
7-8% through most of FY 2013 as fuel and
commodity prices exerted pressure. CPI
(Consumer price index) was above ~9-10%
throughout the last fiscal. This was largely on
account of the higher weightage of food within
CPI, which was impacted due to weak monsoons,
supply-side constraints, higher MSP and input
costs. India’s central bank, Reserve Bank of India
(RBI) maintained an anti-inflation stance in the
growth-vs.-inflation dilemma. Nevertheless, a
reduction in WPI from March 2013 onwards to
~5% due to easing in the global commodity
prices has been a positive development. CPI also
saw a moderation to ~10% mark, from the 11%
plus figures it had notched between Dec 2012
and Mar 2013. These developments in inflation
trends ushered in hopes of interest rate cuts,
which would eventually revive investment cycles
and growth rates. RBI reduced the key policy
rates (repo rate and reverse repo rates) in its
policy review meetings in Jan, Mar and May
2013. But the country faces two challenges at this
juncture. The depreciating INR has exerted
current account deficit pressures in recent
months. This brings the spotlight back on the
growth-vs.-inflation dilemma, with expectations
that RBI may hold back any further interest rate
cuts till the currency situation eases slightly. This
continues to impact growth expectations.
Secondly, the rate cuts that were done have
not really transmitted into a commensurate
reduction in lending rates so far, as liquidity
remained tight. India’s current account troubles
owing to the balance of payments situation have
not boosted its forex reserves, which has also
impacted its ability to infuse liquidity. Base rates
of major commercial banks have hardly reduced
commensurate with the central bank’s rate cuts.
Coming to reforms, the need to balance coalition
politics took its toll on the speed of reforms’
execution. Environment clearance issues,
regulatory delays, inflation and the global
slowdown contributed to the slowdown in the
investment cycle by companies. High cost of
borrowing remained a deterrent, as have the
increased focus of banks on the NPA (net
performing assets) aspect. Infrastructure
development was slow due to regulatory delays,
challenges of PPP models (Public-Private
Partnership) and long-term funding sources.
New projects slowed down and a number of
existing projects are currently stalled facing
delays. Industrial output remained subdued for
most part in recent months, as output in
segments like mining, coal, fertilizers and natural
gas faltered. This consequently impacted
demand for capital goods, commercial vehicles,
equipments etc. Nevertheless, initiation of some
reforms since Sept 2012, even at the risk of
snapping ties with coalition partners, did raise
some cheer. The government also set up a
Cabinet Committee of Investment as a single
window to clear large projects, and is further
working towards public spending projects. As
inflation stability sustains and liquidity
improves, it can lead to further monetary easing
and eventually help to lower the cost of
borrowing and revive the investment cycle.
However, reviving the investment cycle would
also demand sustenance of the reforms engine, a
more involved decision-making with state
governments on issues related to land, resources
and closer monitoring of stalled projects to
catalyse further investments.
On the current account/balance of payments
front, India’s growing integration with the global
economy meant that continued global economic
weaknesses impacted demand for its exports.
This is more so given that its major export
markets are US and Europe which have
undergone their own share of woes in recent
years. The import bill was impacted due to price
and demand trends in oil, gold, coal, etc. Oil
imports are ~80% of total oil demand. Apart
from consumption of gold, the demand for gold
also shot up due to its perception as a relatively
better investment. The trade deficit is now about
10% of nominal GDP now, and the forex reserves
have stagnated around the USD290bn mark in
recent months. Current account deficit as a
percent of GDP increased from a historic average
of ~1-2% to over 4%. On top of this, the
S

4. depreciation in the Indian Rupee is hanging like
a Sword of Damocles, impacting the current
account situation. INR depreciation impacts
the import prices of key commodities and
negates the positive impact that any easing in
global commodity prices could have brought
about. Prices of products using such imported
inputs also come under pressure. It also exerts
fiscal pressure if the entire price rise cannot
be passed to the consumers, especially in fuel
products. Companies who borrowed via
ECB route (external commercial borrowings)
face profitability pressures. Nevertheless, the
government is working on regulations to curb
gold imports and address the needs for domestic
oil & gas upstream activities. India is a global
production hub for automobiles, consumer
non-durables etc. The country also needs to
improve the relative competitiveness of exports
and expand into new export geographies outside
its traditional export markets, especially
targeting the frontier markets. The government
has been actively trying for trade-agreements
with a number of geographies. India has a
competitive edge in knowledge sectors like
pharmaceuticals, healthcare, IT/ITES,
automobiles and ancillary owing to its large
talent base in these disciplines. The country
may also need to fast attempt some import
substitution by way of domestic production, to
reduce the import bill to some extent.
Continuing on the currency conundrum, from a
historical average of ~Rs 45 in the last decade,
the INR/US$ exchange rate breached the Rs 50
mark in FY 2012, the Rs 55 mark in FY 2013, and
the Rs 60 mark during YTD FY 2014. Action on
the reforms front in Sept-Oct 2012 had improved
sentiments and the INR appreciated to ~Rs 53.
But it subsequently moved back below ~Rs 55
and towards ~Rs 60 as the current account
deficit continued to exert pressure. During the
fiscal year FY 2013, the INR depreciated against
currencies like Chinese Yuan, Thai Baht, Korean
Won and Malaysian Ringgit, apart from USD and
Euro. Exports have been a key growth driver in
most of these Asian peers, and the current
currency trends may increase India’s relative
export competitiveness. Any uptick in
manufacturing sector exports specifically would
benefit from the current trends in the INR. On
the other hand, the INR appreciated or remained
flat this year against other emerging market
peers like Brazilian Real, Russian Rouble, as well
as the Pound Sterling and the Japanese Yen.
Apart from stability in prices of import goods,
another possible catalyst for INR appreciation
would be to increase foreign direct investment
(FDI), as it is a more stable and long-term source
of foreign capital.
Capital inflows from foreign portfolio investors
(FII in Indian parlance) have given some
cushion. FII inflows into Indian equities have
been robust during most recent months,
especially during the months which saw some
reforms action. FIIs now comprise the second
largest chunk of shareholders in Indian
companies after the promoters, holding about
~20% of market capitalization and over ~40%
of free-float market capitalization. However,
these flows are inherently volatile. Recent news
flow relating to USA possibly pulling back on its
quantitative easing programme had an effect of
pull-out of FII money, although this was mainly
from Indian debt. A fall-out of the depreciating
INR on foreign investors which might pinch
currently is that it impacts the investment
returns earned post conversion.
In terms of the fiscal situation, the government
announced in its recent Budget, as well as in
various roadshows, to rein in fiscal deficit to
~sub-5% in the coming year. There has been
some reforms action since Sept 2012. The cap on
LPG subsidies and the deregulation of diesel
prices should ease the subsidy burden to some
extent. Tax earnings might be impacted on lower
excise earnings, corporate taxes etc as corporate
demand and earnings remain muted. However,
the net tax-GDP ratio should typically move
towards historical averages as the GDP growth
shows signs of recovery. While the recent
Union Budget kept the tax structure as largely
unchanged (except for a couple of surcharges on
corporate and wealthy taxes), the government is
also expected to earn from non-tax sources.
These include its disinvestment programme, sale
of spectrum and other resources like mines, land
etc, as well as possible cash dividends from the
Tax earnings might be
impacted on lower excise
earnings, corporate taxes etc
as corporate demand and
earnings remain muted.
However, the net tax-GDP
ratio should typically move
towards historical averages
as the GDP growth shows
signs of recovery.
Special Feature
18 www.finance-monthly.com

5. cash-rich government-owned companies (PSUs).
It has already approved disinvestment of four
PSUs and strategic sale in a couple of firms.
However, initial estimates of earnings from
disinvestment might seem over-ambitious given
the muted investor participation levels in the
markets, hence updates in this segment will be
closely watched. Opening up of FDI avenues
should bring in further long-term capital. Recent
announcements included liberalizing FDI norms
in sectors like retail, aviation and broadcasting,
as well as proposals in pension and insurance.
FDI inflow would go a long way in addressing the
capital shortfall in meeting deficit targets. On the
expenditure side, the Budget also announced a
hefty 29% rise in planned spending, given the
need to spur growth in the context of the current
slowdown. However, the challenge will be to
meet the estimated revenue targets from tax
earnings and disinvestment and spectrum sales.
In the event of lower than expected revenues,
expenditures may need to be appropriately
managed to help keep fiscal deficit within
comfort limits.
India has traditionally been a savings-oriented
country. However, gross domestic savings as
a percent of GDP has declined from the last
five-year historical average of ~33-34% to ~31%
in the last couple of fiscal years. The country
needs to shift from consumption to savings and
investment. Within households, the share of
financial savings has declined in recent years
while that of physical savings has risen,
coinciding with the increased demand for gold
and real estate which are increasingly viewed as
safe-havens by Indian households vis. a vis.
Financial saving options. In order to spur retail
inflows into financial savings, the government
has engaged with asset management companies
by initiating several measures like Rajiv Gandhi
Equity Savings Scheme to bring in new equity
investors, direct mutual fund plans to reduce
fund costs, reviving distributor interest through
incentives, expansion into small towns by
increasing fund expense, flexibility in fund
charges, investor awareness initiatives, amongst
others. Institutionalization of retail savings has
been a key mobilizer towards investment flows,
as seen in mature markets like USA, Korea etc.
These regulatory initiatives, along with possible
growth in disposable income should encourage
flows into financial assets further.
Apart from India’s strength in its demographic
size and structure, a major aspect that needs
special mention here is the criticality to build
skilled workforce. India has the advantage of
having a established knowledge-oriented talent
pool which is well recognized globally. Apart
from leveraging on its existing talent, the need is
also to ensure a supply in the years to come.
Skilling of the population is necessary to move
up the work value-chain and move up to higher
income levels that the population aspires for. In
fact, it’s an opportunity the country needs to
pounce on, as it would also go a long way in
enhancing the competitive edge of the country
as a preferred base of operations by global
corporations ahead of other emerging market
peers.
In conclusion, very few countries match up to the
demographic magnitude that India offers, and
the size of this market would be tough to find
elsewhere. Its short term woes do not diminish
the long term opportunity that the country offers.
Its demographic is still hungry for new,
innovative products that give an opportunity for
an enhanced lifestyle. From the economy’s
perspective, it has faced tough economic times
before and has always managed to navigate
itself and emerge stronger. Even in the years
immediately following the global financial crises,
India showed resilience by clocking ~9% per
annum growth in GDP in both FY 2010 and 2011.
While the recent reforms initiatives boosted
sentiments, it is also imperative to address
regulatory delays, governance of projects and
inflation. The recent interest rate cuts have not
really led to a reduction in lending rates so far,
as liquidity was a concern. Despite stability in
inflation now, the current account deficit and
INR situation has placed watchful eyes on the
growth vs. inflation dilemma once again. Going
forward, the action plan is essentially on reviving
the investment cycle, sustaining reforms action,
combating inflation, rein in fiscal and current
account deficits, create skilled jobs and
enhancing labour productivity, expanding export
geographies, attempting import substitution,
removing infrastructure bottlenecks and
reducing borrowing costs.
Sourajit Aiyer is the Senior
Manager of Investor Relations
at a leading capital markets
company based in India.
The views expressed in the article are personal. It is meant for information purposes only and does not construe to be an investment advice. It is not intended as a solicitation for the purchase
or sale of any financial instrument. Any action taken by you on the basis of the information contained herein is your responsibility alone. We have exercised due diligence in checking the
correctness and authenticity of the information contained herein, but do not represent that it is accurate or complete. The readers should rely on their own investigations.
Economic Perspectives: India