Indian Economy in 2012: The Impact Of Political Drama On The Broader Economy.

The global uncertainties immobilized the economic growth around the world and emerging economies were not left behind. India economy too stalled in the second half of year 2011 caused by cumbersome inflation and rising policy rates. Lots of constraint is on the way of the Indian economy.

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Alongside the assembly elections in five Indian states, the unequivocal major economic indicators are the important source of conviction for the economy this year. Unlike last year, the economic growth is expected to be above the potential economic growth and the falling inflation should be given a credit for the same. Asia’s third largest economy was on the backburner due to higher interest rates and inflation last year, fallen down to below 6 per cent of annual expansion. India’s home grown problem rooted from the corruption charges against the federal government and paucity of important economic reforms, which was expected during last year, push the Indian economy on the downside. In our last economic outlook report, we emphasized that RBI will not even think about the economic growth prospect since inflation was the major quagmire for the central bank and has left with no room for further inclination on the price rise. Central bank’s primary job is to have stable prices in an economy with stable job prospect. However, only the stable economy would ensure the good job prospect and RBI at this point does fail to act on just because to bring down the inflation under control. Nowadays, the Indian Rupee is in the global headlines as the “worst performing currency in Asia by falling more than 20% against the US Dollar”. Indian Rupee  (INR) is one the most risky and volatile currency in the world with managed float system. RBI intervenes when the currency’s fall is wild and threatens the economic prospect like it does last year. Below is the balance of India’s international trade.

Rupee’s Fall – How fatal could it be?

What makes rupee a black beat? India’s home grown problem widens the parity between major currencies. The Indian currency is on the down-fall and depreciated against USD last year by more than 20 per cent. Reasons could be anything but the ultra reason is the government’s inaction for the economy. Major economic reforms remained unclear and stalled in the legislative assembly which depressed the investment prospect in the country. This fiscal (FY2012) till Nov 2011, India received about $1.01 billion in foreign portfolio investments or popularly known as FIIs – in compare to $31 billion in fiscal 2011. The one interesting findings of our research is that,  India remains a favorite destination for the long-term investments and its  position of being an investors’ darling remains intact. The foreign direct investment into the country is somewhat sluggish but remained buoyant. So far, in this fiscal, India attracted FDI of nearly $33 billion, which is comparatively larger than FY11. Apparently, the currency has lost its value by 20 per cent. However, it is not necessary that rupee’s depreciation can only have an adverse effect. We understand that India does not have a positive trade balance and the trade gap could largely get affected by depreciation of the quote currency (INR). However, most importantly, on the fiscal side, despite the rupee’s fall, India can subsist with the expensive US Dollar. From the latest figures related to the Indian government’s external borrowings, India owes a very little amount of total debt quoted in foreign currency  (about nine per cent of total public debt, see the provided table) and the expensive USD could not significantly affect the  interest payments of the government on an annual basis since it accounts for 20% of government’s expenditure – means the general budget will not get imbalanced and will be focused on the fiscal consolidation. Perhaps, the local currency depreciation seems to have lesser impact on the fiscal side and will not be subsided during the crucial budget session, when India’s Finance Minister Mr. Mukherjee presents the general budget.

Indian Government Borrowings
Public Debt Upto Sep 11 Upto Jun 11 % of Total Debt
Internal Debt 2935618 2816693 76.06%
External Debt 340750 312280 8.83%

The considerable point is, rupee’s fall could be a can of worm for the Indian companies, since they borrow money from low-cost capital supplying countries like Japan, the United States, the United Kingdom and the Euro zone to meet their funding requirements for working capital, project expansion and capital expenditures. As per latest data, the Indian companies’ net outstanding of offshore commercial borrowings is almost 30 per cent of the total external debt, up from 27 per cent in 2010, facing the biggest currency translation risk due to currency’s movement. This lion share of external debt could even rise further due to valuation effect. On the other side, trade deficit will become a cumbersome since India’s biggest supplier is Saudi Arabia, which exports $20 billion worth of crude oil annually and rise in USD will make imports expensive. However, what about the exports or consumers of the Indian product? One side, we understand that the imports are getting expensive and   widens the trade deficit, but on the other side, exports will become cheaper for the Indian suppliers too. So, where’s the problem? India’s exports are not a bottom-rung which does not attract any buyers. We have provided the international trade results which show a narrow gap in second half of last fiscal year. Trade gap was fallen down to $2.6 billion in Dec 2010, it is indeed the trade gap widened to $20 billion in this fiscal largely due to higher oil imports, but this is a temporary movement. Subsequently, the richness of export’s value could offset the import’s losses.

Inflation Prospect

It’s evident that the price levels are significantly decreasing to the lowest levels in two years and peaked around 10% in Sep, 2011 which we have projected a year ago. Primary articles including the food and non-food articles grew by 3.04% in Dec 2011 but the important indicator for the central bank while taking monetary action, “Manufacturing” index is still unstable enough to hinder any policy action on the down-side. Prices in the month of Dec, 2011 increased by 7.47%, lowest in 24 months. Due to the new base effect, it is certain that inflation could even fall to 5% in the next 2-3 months, below the RBI’s comfortable levels. However, does it lead RBI to think about interest rate cut? Any policy action at this point will cause prices to exaggerate as the price indicator does not show the stability and largely abated due to base effect. Even, the RBI wouldn’t be in a hurry to take policy action to stimulate the economy and under the current bleak economic circumstances on the basis of current inflation figures.

The core problem of the headline inflation is the rise in non-food articles and food prices remained subtle at higher prices but the growth with the corresponding year was not as high as the growth of the manufacturing sector. It’s quite clear that the RBI’s policy rates will not come down to the levels of 2008 until the adequate price stability.

India Economy: What’s Next? Medium-term is Bright But Sustainable Long-term Growth Seems Hundred-to-one!

With a dismal performance, India’s home grown problem is enough to dent its economic growth, so it does last year. From 9.1 percent of annual economic expansion to 7.5 percent is an evident that the economic growth bulldozed in the second half last year. From the internal problems to the external, the broader economy faces a downward pressure. Inflation caused the major problems in the economy starting from higher borrowing cost. India’s central bank,RBI revised interest rates in its each monthly review meeting, which pushed the Indian companies to go  abroad for raising funds. Per the current statistics of VMW Analytic, Indian companies’ borrowing through the external commercial borrowing route for fiscal 2012 is at $99 billion, increasing the overall external debt burden to $326 billion. Here, the sore point is the rupee’s depreciation. Although, the government’s external debt is around $27 billion out of  $721 billion of total public debt. The Indian currency is one of the considerable remora in the current scenario. Like we discussed the flip side of the rupee’s fall, its performance on the broader perspective is a confrontation for the Indian corporate. India, as of now, is not a suitable country to have its currency undervalued or expensive against the US Dollar as the country’s infrastructure bottleneck is a barrier to growth. Everything is tied-up to this problem. Even the prices have been a stubborn due to supply chain constraint and technological barriers, giving the Indian economy a challenge with a small room to grow at 9 percent.

If we look at the foreign reserves asset of the central bank, there is a consistent decline due to rupee depreciation. Since the Indian currency is a managed float currency, RBI generally intervenes in the currency market to balance the cross border trade on the either side – so it does taking the same action to tweak the INR/USD relationship. Is it necessary? Apparently, the domestic demand is the biggest driver of the Indian economy and India could not satisfy its demand through its domestic produce. Crude Oil is the biggest single commodity and a best example to demonstrate the domestic demand. Expensive rupee will virtually make the imported products expensive. In this situation, RBI starts purchasing the INR (when rupee depreciates) by selling the USD from its reserve assets to take it back to the comfortable zone of trade. The purpose of highlighting this is to think about the important source of financing the trade deficit. RBI is gradually losing its important asset which could make the situation worse and unbalanced BoP. Perhaps, selling USD to give INR a relief is not a permanent solution. There is a lag in infrastructure commitment by the federal government. The urbanization process is at a slower pace and the existing urban cities do not have abundant financial sources to make a considerable investment for a sustainable growth. With 5 per cent allocation of GDP’s resource to the country’s infrastructure, government would not be able to meet its long term strategy and sustainable economic expansion in the long run will become a challenge. VMW discussed the issues on infrastructure challenges in its next research that will be available soon.

Even, there is a significant decline in the fiscal consolidation efforts by the federal government. Indian legislative assembly stalled because of countless issues, hindering the important bills to be passed in the lower house, pausing the foreign inflows into the country. The pulse of  foreign inflows can be measured by looking at the performance of India’s benchmark indices – BSE Sensex, which illustrates the apprehension of foreign investors. In year 2011, India attracted the foreign portfolio investment of $1.01 billion, significantly lower than a year ago.

The first half of the fiscal remains to be volatile until the wind-up of legislative assembly elections. By analyzing the price index, inflationary pressure will be moderate for the next two quarters yet its not likely to remain subtle, pushing the policy makers to proactively work on the fiscal consolidation. In our last research update, we stressed on the inflation side that must be subdued to contain the rising cost of capital. Although, it’s now easing and currently reading close to the RBI’s comfort level. As of now, we’re not expecting anything in surprise from the central bank since prices have not yet stabilized and policy action will have a counter effect on the overall micro side. The other challenging factor, which we have discussed in our Mar 2011 report, that the political uncertainty could deteriorate the investment prospect of the country and so far, the challenges remain same in this year too. Prime Minister Mr. Singh had proposed to introduce the 100% FDI in single brand retail sector to promote the foreign investments and technological advancement in the country to improve supply chain and bring pricing stability, but that too ended without action. The recent Supreme Court’s judgment in Vodafone’s tax case will likely to have a positive impact to boost long-term investment and additionally, it gives a clarity on India’s tax regime.

Indian Economy 2011 Overview: Challenges For The Global Economy Surfaced After Recent Sovereign Debt Crisis.

Everyday is bringing the new challenges to the global economy and this time around, the massive public debt of a country is creating a three-ring circus on the streets and the possibility of disagreement over debt ceiling in the United States could set off the fresh concerns of the global economic recession – VMW Research Team brings you the latest update on the global economy and would address all your concerns related to the Indian economy in particular.


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Global Economy in Brief – Consternation of Sovereign Debt!

Once again, the default on debt repayment haunting the economies around the world after the tragic incident in Argentina in the early 2000s, when hyperinflation undermined the Argentine’s export competitiveness and triggered the chronic deficit in current account of the Balance of Payment (BoP). The 1998 Asian Financial Crisis also played a greater role in Argentine’s hyperinflation and bank run, which ultimately led to default in debt’s payment, as the major chunk of current account deficit financed by borrowings, that gradually dragged the economy in 4-year of depression. Greece is the latest case of a defaulter in debt repayment and subsequent to this, Standard & Poor’s or S&P has downgraded Greece’s debt to CCC rating (Junk or extremely high risk), the lowest in the world. Greece is not the only country in Europe to get support from the EU and the IMF. Iceland and Portugal have already bailed-out. It is expected that the other European countries might be getting snared into the sovereign debt crisis such as Italy, Spain and Russia. Why such type of instances unfolding after two years of the global economic recovery? Greece was one of the fastest growing economies in the region with expanding areas like tourism, port infrastructure and transportation. Robust economic growth and lower interest rates put the Greece’s economy on structural weaknesses as the country borrowed exceptional amount of money and hid the exact borrowing numbers. Subsequent to the economic crisis in 2008, countries like Greece, Spain, Ireland, Poland  are having a slower economic growth, lower foreign investment inflows and tremendous amount of overspending (fiscal deficit). Such kind of problems has a material impact on an economy, and these countries will take several years to recover their credibility. Another nerve-racking concern is that the creditors of these countries are mostly foreign holders and this is making a panic situation to overcome from this crisis. Is the European Union going to be transformed with all these dire economic developments at the time when the economy like Greece and Portugal have implemented an austerity plans to cut down on their annual spending?


Economic circumstances of the United States is somewhat, but not completely due to economic structure and positioning, similar to the European economy having the forebode public debt estimates, even assumed double the size of the US economy by year 2035. This is something, which cannot be accounted for the current-year’s economic outlook as yet. Now, let’s discuss the US’ military operations, since the largest spending after healthcare is “Defense”. According to the US Department of Defense or DOD, War in Afghanistan costs the United States about $6.5 billion a month, increased by 50% from year 2010 (about $4.4 billion) while the cost of war in Iraq is about $7.9 billion a month but seeing a reduction in spending followed by the contraction of boots number on the ground. So far, since the US invasion in Iraq and Afghanistan after the 9/11, US spent more than $1.414 trillion. The positive point is, after the reduction of boots in Iraq, the US’ spending has been reduced to half of the total spending in FY09 owing to the withdrawal of the large amount of troops from the country. Now the United States has started an exercise to reduce the number of troops in Afghanistan, which could make a positive development for the US economy going forward as the country can curb its swelling deficit over the years. Thus, the US President’s ambitious plan to cut overspending by FY15 will be feasible. However, the VMW is not certain about the cut in fiscal deficit as the economic output in the subsequent years  is also expected to remain under pressure and the revenue side of the US budget would not increase. According to the report of Congressional Budget Office (CBO), there is a wide gap of revenue between the baseline projection of CBO and the US President’s budget. This could boost the fiscal deficit and rise in interest cost for the government. The recent debate on the US debt ceiling has unearthed the risk of US economic growth and questions the capability to meet the obligation. In early 2009, VMW had posted an update on Twitter, quoted as “US have to prove its solvency followed by massive government’s support to the banking sector by spending trillions of dollars of taxpayers’ money.” The debt crisis in the EU region and the United States could reverberate across the world, since this could lead to fresh inefficiency of the banking system after normalization. All-embracing, the United States has to make an economic friendly defense and healthcare spending policies to reduce the ratio of public debt to the GDP and combat the expected rise in interest cost to alleviate the risk of prolonged stagnant economic development and sovereign debt crisis.


Japan’s economy after the earthquake disaster continues to see downward pressure due to supply side effect, lowering the production. Although, after four months, the Japan’s economy has shown some sign of picking-up as the production and domestic demand is improving. The consumer prices have also changed slightly positive. VMW has analyzed that the Japanese economy could gain some momentum going forward amid high uncertainty in the other industrialized economies since it is an exporting economy. In the meanwhile, Japan is currently working out to impede the greater  downside risk to the economy followed by series of disaster ranging from the leak of nuclear radioactive material to reconstruction in order to restore supply chain. The immediate step of the Japanese central bank was to add liquidity in the banking system to keep up the short-term requirements faced by the tragic incident.



Economy of India


High Inflation – “Temporary But Unsustainable”

Most important area of this VMW research. Let’s start with “inflation”. Is inflation really going to indent the economy and undermine the real economic growth? Per our empirical findings, inflation is expected to peak between 10-percent and 11-per cent and would fall down to 5.5 per cent in the second-half of FY2013. Why? VMW believes that the good monsoon rains this year, persevering high interest rates  amid tighter monetary policy, stable crude oil prices throughout the fiscal and controlled global food prices amid high volatility could be the reason of falling inflation back to 6.0 per cent. Look at the inflation chart. VMW Research Team has worked on the inflation to build this chart, which shows that the inflation is expected to peak-out at nearly 11.00 per cent and will come down to 6.0 per cent by the second half of fiscal year 2013. However, interest rates are expected to remain high to support the sustainable and materialistic economic growth with consistent risk of high inflation as the higher economic growth means an uncomfortable inflation rate (mildly higher than the RBI’s comfort zone viz 5.0 percent). It is apparent that the Reserve Bank of India will continue to monitor the supply side effect on the economy, which could keep the inflation rate at the attentive level even after falling back to 6-per cent.



After a series of measures to curb the overspending by the federal government, the recent price hike in petroleum products will spur the price rise, to some extent, which is to be limited for certain months. This could be the possible reason of a double-digit inflation rate which the VMW is expecting in the Indian economy. To elaborate the inflation issue further, we need to discuss the most important factor such as oil prices and food prices. Although, VMW is not seeing any immediate appreciation in oil prices due to bleak economic output, intervention of the west and the International Energy Agency (IEA) in oil markets. But the risk remains owing to the arab spring and instability in the northern parts of Africa. As per the IEA report, the economic growth engines – China and India will drive the global energy demand higher. What matters the most is the policy implementation of the respective governments since crude oil is predominantly the largest imported product for the economy like India, and it is unclear, by when the oil production will peak? The latest shock to the energy sector was given by Japan’s nuclear disaster followed by earthquake and tsunami, questions the safety of nuclear energy and reducing the demand, which just accounts for 6% of the total energy consumption. However, contrary to our assumption, the IEA believes that the nuclear energy will account for 8% of the total energy demand by 2035, which is still much lesser and slower in terms of growth due to safety and security concerns. Government has to act and respond to the oil consumption and the growing cost of supply by improving the viability of the alternates to the oil. It could ease the demand for the oil, and we can see the peak of output even before 2020.


After discussing  the future of crude oil price and demand, there is another phobia, which needs attention, viz Food Prices. According to the available data, wheat production is not impressive due to continuous dryness in EU-27 nations including Germany, France and the UK. But the lower consumption is Russia would yield the wheat exports higher and offsets the EU-27 and Canada decline in trade. Interestingly, Pakistan this year has a surplus amount of wheat output and plans to export 0.3 million tons, for which Bangladesh is an immediate consumer. On the other side, Rice production has largely been affected by bad weather in the United States, China, Cuba and many other nations in the western hemisphere dragging down the projection of rice production. However, projections for Egypt and Guyana have been raised. Many other commodities like oilseeds, corn and wheat are witnessing the downward pressure in the Ending Stocks threatening the volatility in global food prices. Combining all the factors, food prices is expected to remain volatile since market drivers are pointing towards the instability in production and ending stocks, as the major crop producing nations are facing the bad weather, which imbalances the global production under higher costs.



Core Economic Developments



In the last two years, India’s public debt has been limited to a range of 75 percent to 80 per cent of the total economy and the annual growth in public debt has also come down to below 10.0 per cent. To discuss the issue of public debt, VMW has gone through the 11th five-year plan, a document which is a facet of the government’s action plan. Perhaps, none of the five-year plans have been accomplished so far and this time around the government is still not able to meet the infrastructure goal due to funding deficit. According to the Planning commission, 8.37 per cent of the total GDP is supposed to be invested in the infrastructure development. However, the government has proposed to invest only 4.0 per cent of the total GDP. Based on these assumptions, the government borrowing is expected to continue to rise amid shortfall of investments in the required sectors of the economy. Apparently, the infrastructure in India is a bottleneck to the economic growth and the local firms are not able to realize the economy of scale.



If we talk about the physical infrastructure, in particular, about 95 per cent of the total traffic generated through railways and road. In contrast, several parts of the country are still not connected even by road. Nevertheless, the situation of a road getting deteriorated even in those cities and villages which are connected by road due to short funding to maintain the condition. Most of the government’s efforts are going futile because of the shortage of funds with the highway authorities and local state bodies such as municipal. Furthermore, several states are facing the supply-side constraint such as the absence of fair deal and federal law to acquire land for highways, expressways and road transportation. In addition to this, inadequate institutional capacities, shortage of a raw material due to poor connectivity in areas such as North-East states of India. The institutional implementation is necessary and for that, the adequate funding assistance from the Central Government is important. VMW-RT analyzed that, going forward, to meet the targets of the five-year plan and to sustain our ambition of expanding the economy with structural growth – government is in desperate need to continue with its plan to borrow money. Thereby, the fiscal deficit is an important indicator to watch-out for in the next couple fiscal years. In the figure given below, VMW has discussed the federal government’s finances and where the government does spend the taxpayers’ money.




Although, we have projected the higher growth on the spending side and government’s borrowing plan. The revenue side is not expected to outpace as fast as the expenditure is growing since the direct tax income to the government will see a moderate growth and the non-tax revenue this time around is likely to be marginal, which could make a significant gap in income and expenditures. Although, the Indian government is taking measures to cut down it spending on subsidy, however the subsidy part accounts for 12.0 per cent of the total expenditures and the major pie of the government’s revenue goes to the planned expenditures. What is plan expenditures? Of course, the recommendation of spending by the Planning Commission of India – which is absolutely required. On the other side, the “Interest” cost burden on the government is also rising with a significant portion of the expenditures is going in the payment of interest on the outstanding debt. Since, we have projected the rising government borrowings; the interest payment burden on the government is also expected to rise, which could undermine the government spending in planned expenditures. To offset the fiscal imbalances, government should oversee the non-plan expenditures carefully such as the interest payments, transfers to the Federal State governments and the Union Territories, Subsidy and Defense. The federal government has already started the exercise by gradually reducing the subsidy burden. However, it would not make a significant difference in the government’s balance sheet and the proper management of the “other government expenses” is necessary. Above all, the inflationary pressure must be subdued to balance all the finances and to contain the rise in cost of funds in the country.


On the monetary side, by taking certain inputs from one of our earlier research done on the RBI’s monetary policy dated back in May, 2011. We have projected that the interest rates will remain moderately high for the next couple of fiscal years to freeze the wild rise in prices. To counter the rising inflation, Reserve Bank of India has  revised its policy rates for more than 10 times in the last 14 months and its stance on the Monetary Policy is somewhat having a mute effect on the commercial bank’s lending power. Banks are not expedite in responding to the RBI’s increase in policy rates and credit growth is quite high, fairly above the baseline projections of RBI to meet the economic needs due to accommodative financial environment and solid inflows into the country.

By concluding our analysis on the Indian Economy and the Global Economy, the slower growth in global economic expansion is temporary – due to policy action by the central banks around the world by raising interest rates and subdued commodity prices. India, in particular, the economic output is expected to see some sluggishness due to inflationary effect on raw material and expected slowdown in demand-side due to higher cost of credit. However, balancing the government finances by cutting down on unnecessary spending and focus on the planned expenditures to improve physical infrastructure in the country so that the long-term foreign inflows could be sustainable to finance the current account deficit will make a greater positive impact on the Indian economy over the long-term.


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India’s Annual Monetary Policy 2011 – Inflation Is Expected To Remain High Amid Robust Economic Growth.

The thirst of robust economic expansion and higher commodity prices will technically push inflation on the upside and interest rate in India is expected to remain high for the next couple of fiscal years as the RBI seeming to keep interest rates on the higher side to maintain the cost of credit exorbitant to lessen the demand.


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It was the confrontational step of the Reserve Bank of India by revising another 50 bps in its policy rates to address the wild price rise situation in order to eliminate the risk of higher inflation and to persuade the Indian economy to grow fast but sustainably. VMW has analyzed the inflation problem from the household’s kitchen to the corporate decision maker and found that the food prices are not rising as fast as the non-food articles do, due to increase in international commodity prices. Food prices in March rose by 9.47 per cent while the prices of non-food articles rose by 25.88 per cent largely inflated by expensive crude oil and other important imported commodity products. So far, the effect of RBI’s rate tightening and expensive commodity prices – rallied on the economic euphoria – can be seen on the Capital Goods sector of India. India’s IIP index has been fluctuating, and the capital goods, index in particular, has performed deplorably (see figure below) due to higher cost of credit, tolling in the company’s income statement in terms of higher interest payments. Construction, Energy, Real Estate, Diversified and Infrastructure companies have piled up billions of dollars in terms of debt to function their operations and to execute their awarded projects.


The important wings of the Indian government and the Reserve Bank of India are expecting the inflation around 6 per cent by the end of the fiscal year 2012. However, the VMW’s estimates are bucking the government and RBI’s estimates – expecting the inflation to remain above 6 percent and even in a double digit by the end of this year (up to 11 percent). The only fundamental cause is the India’s hunger of economic expansion at a faster pace, and the same would not pull down the inflation to lower levels, since it will dramatically push the demand in the economy for pricey imported commodity. Moreover, the US Federal Reserves’ monetary expansion program, known by Quantitative Easing or QE2 is scheduled to end by Jun, 2011 and, perhaps, it will not reduce the impact of higher inflation in the economy right away and high supply of a dollar could depreciate it against the other major currencies, which will push the international commodity prices. The expensive imports will prevail upon the higher current account deficit until the export figures too remain blunt. Henceforth, the Current Account Deficit remains a prime concern for the economy. Although, RBI is not considering it as a major threat but the VMW is deliberating the same, and the prime predicament could be the lower portfolio investments since Foreign Institutional Investors’ flows (FII) are the immediate source of financing the Current Account Deficit and Foreign Direct Investments are not as easy as the FII flows are due to scores of roadblocks to the investments and instability in national politics and India’s foreign policy.


Inflation always Remained High in India and Now Needs Government Intervention Plus Tighter Monetary Policy from RBI’s Side. 

Now, in our research lab, we have analyzed the inflation problem. Look at the GDP Deflator and the WPI Inflation rate – how these trend lines have emerged over the past six fiscal years. GDP deflator is one of the other important tools to measure inflation, and it show, the inflation problem was relentlessly haunting the Indian economy. The most significant discovery is, the RBI loosened the policy rates during FY08, when India faced the condition of deflation due to change in the base year and was not reflecting the correct picture. However, GDP deflator remained at the alarming levels. At the same time, in FY09, RBI has raised the interest rates to prevent India to be a victim of the global financial crisis.


Here, we are not suggesting the RBI to track the GDP deflator, but to align its monetary policy to fix the “structured inflation problem”, caused by huge government borrowings, and at the same time, to make the economic growth sustainable and to refrain from the economic overheating. Plus to this, there is an urgent need of government intervention in terms of policies to overhaul the distribution of agricultural produce, to check the government borrowings and bringing down the fiscal deficit, which is now estimated at 5.6 percent until Feb, 2011 and 5.8 percent for FY2011. This will also subdue the prices.



Future of the Interest Rates in India

Rise in crude oil prices and other imported commodity price holes the Indian Economy up. It is one of the biggest risks to India since the country is not completely reliant on its own energy output and imports more than 70 percent of crude oil from GCC countries and other OPEC members. It’s expected that the global economic recovery would not stall but the pace will come down most importantly when the United States has stepped up its efforts to bring down the fiscal deficit to 4.1 percent by 2014. Nevertheless, the real economic output could remain under pressure due to the effect of increasing government debt. Since, we have focused on the final output (GDP) and it shows the prices of final produce in a particular financial year are increasing by more than 7.0 percent, whereas the WPI inflation is fluctuating throughout the discussed fiscal years. Provided herein is India’s stock of money or M3 for the last three fiscal years, which reverberates above 20 per cent. However, it is now falling significantly back to 15 per cent, and it shows the RBI’s action in policy rate is working, which means the monetary policy has a certain effect on the core inflation problem and would make an impact on the demand side but it is not sustainable as the government’s borrowing plans are on track.





Lower money supply has side effects too as it will increase the cost of credit further, and it will reduce the access to credit. Moreover, the stock markets could not function properly in this environment since the economic activity declines, which will eventually reduce the value of people’s retirement savings. However, the RBI has only one choice – tight monetary policy to tame inflation by giving up the India’s ambitions of double digit economic growth.


This VMW Research is originally published at

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India Budget 2011: Finance Minister Is Quite Optimistic On The Indian Economy But Fails To Energize The Important Sector.

Tone of Mr. Mukherjee’s speech was primarily buoyant, and he’s quite confident about the consolidated growth of the economy. However, India is still getting short on social welfare spending and spending on education. Overall, VMW sees the Budget 2011 as an introduction to reforms apart from a speech of the government accounts.

Union Budget In Brief – “What The FM Has Unfolded For A Common Denizen”

If we compare the budget speech for India in the given fiscal year, over the past two years, government framed the union budget to confront the challenges from the global economic downturn, which lacked the economic reforms but contained relief package for several sectors to stimulate the economy. Last year’s budget has primarily addressed to put the Indian economy back on track to the pre-crisis growth rate (i.e. 9%), sustainable economic expansion with moderate inflation and fiscal deficit.

While, this time around, announcing the budget for fiscal year 2011-12, India’s Finance Minister Pranab Mukherjee, most interestingly, has addressed all the sectors and laid down the policies to support the industries by making user-friendly policies for foreign direct investments (apparently trying to attract FDI in certain sectors). Apart from focussing on the economy and businesses, Mr. Mukherjee has also addressed the social welfare spending by revising  the priority housing mortgage from Rs20 lakhs ($44,000) to Rs25 lakhs ($55,000) and strong focus on the rural side with the commitment of giving out cash subsidy on kerosene, LPG and fertilizers via Aadhaar.

Going back to the previous year budgets is important since the solid material growth of the Indian economy is largely supported by the expansion of service sector, which contributes over 57 percent. Since FY2009, Mr. Mukherjee has announced the budget to inoculate the economy from the external shocks and he wanted to maintain the 

economic growth of over and above 7 percent. It is quite interesting to know that the Indian economy is expected to expand further by 8.6 percent in FY2011 amid concerns of high inflation rate, uncomfortable interest rates, current account deficit and shocking oil prices. Furthermore, the implementation of the budget’s proposal over the past couple of years could be palpable and the government is  trying to reinforce the rural participation in the economic growth. Although, the government’s focus on the agriculture sector is blemishing, and the one time credit waived-off to the farmers could not support in the long run. Now, VMW is going into details of the agriculture sector of the country and will give you an important perspective.



Budget 2011 in Detail


Discussion Topic I : Agriculture Sector

Let’s discuss the Union Budget for the fiscal year 2011. Starting with the agriculture sector and rural side of the country. Although, India’s agriculture sector accounts for over 15 percent to the economy, however its importance is much beyond from this contribution. Over the past few years, the agriculture growth has been in decline phase. Over the past decade, VMW analyzed India’s agricultural growth at 3 per cent, which is almost half of the manufacturing growth rate and one-third of the service sector growth. The another nerve-racking point is, India’s agriculture sector’s contribution to the Indian economy is consistently declining.

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In the above figure, we can observe the level of prompt attention, the agriculture sector needs at this point. From the budget speech, we found nothing attractive which can lift this sector up. Mr. Mukherjee gave attention to the credit facility by revising the credit flow to farmers from Rs375,000 Crores ($82 billion) to 475,000 Crores ($105 billion). India has a good rural financial institution network, or generally known as Regional Rural Banks (RRBs) set-up by nationalized banks, in the rural part of the country. However, poor farmers are still away from the credit facility due to inefficiency of banks or financial institutions since they are having high level of non-performing assets (average NPA of 3 percent on their books) amid extremely low margins, threatening the rural banks to sustain in the business to extend credit facility, high cost of credit and high risk associated with lending to agriculture sector. Thus, extension of credit flow alone could not prop-up sector’s growth. Stringent land regulation, non-access to markets due to poor key infrastructure such as road, (even absence of road connectivity in several villages) electricity –  leading to poor supply chain management, storage management, which ultimately reduces the food security.

It is more important to make India’s agriculture sector internationally competitive and increase productivity by focusing on research by investing in agricultural biotechnology to meet the sector’s challenges and proliferating demand in the 21st century, promoting the non-farm sector by investing in horticulture and cattle . Furthermore to this, severe land regulations discouraging the private investments in rural parts of the country. Currently, several states in India are still lacking the access to the modern-day agricultural technology, which includes part of Uttar Pradesh, Madhya Pradesh, Bihar, Jharkhand and Orissa, ultimately losing the productivity and since there is no water management or slow execution of water management projects are causing the severe floods.

Agricultural reforms are the cornerstone of the country’s economic expansion and for a country like India, where the resources are ample, India should strongly focus on the land regulations to encourage private investments by enhancing the land access policy to the landless farmers.




Discussion Topic II : Infrastructure Sector

Infrastructure development is the key to the economic growth and to make India a competitive global marketplace in today’s globalized world. According to the latest data, available with VMW, more than 28 per cent of India’s population living in urban areas and out of this, housing crisis along with other key social infrastructure is a problem, when people from smaller towns and villages are shifting towards the urbanized parts of the country in search of an economic opportunity. To alleviate the urban poverty, government is improving the key infrastructure by setting up “Jawaharlal Nehru National Urban Renewal Mission” (JNNURM) in which the government is signing up the agreement with the states to fund in their projects and to facilitate the state governments to improve their housing situation (since 1/4th of the urban population living in slums), transportation system. Over the next seven years (from 2005-06), government has projected over Rs120,536 Crores ($26.5 billion) of investments in urban sector. As proposed, largest investments will be done in 35 cities with over 1-4 million population, focusing on social housing and special attention to slum dwellers.

JNNURM has great scope of mission to facilitate the states with funds to invest in the existing urban cities in their key social infrastructure such as water supply, sewerage, telecom, health, roads, public transportation. However, it could not be able to urbanized the rural parts of India, since its aim is limited to existing urban areas.

Many infrastructure projects are stuck in mid-way and taking a longer time to execute the project due to insufficient access to credit. Moreover, cost of capital has also risen significantly in the past few months, stalling the execution of projects. For an infrastructure development across India and to serene the flow of credit, Finance Minister has proposed to enhance the flow of funds to the infrastructure sector by increasing the investment limit of FIIs in corporate bonds from $20 billion to $25 billion. By enhancing the investments by foreign investors, it will attract the foreign participation in the infrastructural development and credit flow to the sector. However, the annual capital investments by the central government in this union budget is 4.6 per cent of total GDP, which is still very low in compare to what exactly proposed to invest up to 9 per cent of the country’s GDP, which is a discouraging sign. To achieve a double digit economic growth or at least to consistently achieve a 9 per cent growth rate, India should need to meet the target of 11th five year plan and to reduce the infrastructure deficit. In its 11th plan, India made an investment target of $498 billion in the infrastructure sector alone.

Further to our analysis on the infrastructure sector, there is a wall-to-wall financing gap of $40 billion, which could deter the government’s target to meet it. On the other side, plentiful of challenges are making to achieve target more strenuous such as lack of creditworthiness of  the local municipal bodies to support the government’s desire of infrastructure development and to renew the existing one.

Discussion Topic III : Taxes

The main source of revenue to the government is Tax. Better and simplified tax reforms has a greater importance to simplify the laws and compliance.  To improve the tax governance and to simplify the process, Mr. Mukherjee has introduced Direct Taxes Code or DTC in Aug last year and it will bring a greater compliance in terms of several heads of income. Most importantly in DTC, surcharge on income tax and the education cess on tax has been abolished. Not only this, the DTC has also brought men and women taxpayers under the same tax net (or same exemption limit for all). But the disappointment is, the application of DTC has further been extended to fiscal year 2012.

On account of tax evasion, the Indian government has signed an agreement of Tax Information Exchange Agreements (TIEAs) with two countries named as The Bahamas (signed on 11th Feb 2011) and Bermuda (signed on 7th Oct 2010). This will equip India and allows both countries to exchange the information on individuals, companies, publicly traded companies and many other entities. The harmful tax practices was adopted backed by lack of effective exchange of information and the TIEA with several other island nations, which are considered as a tax heaven, will improve the poor practices of evading tax. Until now, India has a long way to go to further improve the taxation system in the country and to get most revenue out of the direct taxes, which is the main source of income to the government. Moreover, India should strongly focus on the money laundering issue by empowering the independent investigative organization such as Enforcement Directorate (ED) to give complete autonomy to make them stronger to contain the issue.



Discussion Topic IV: Price, National Income & Liquidity

The current nasty problem this year is inflation. India’s central bank, Reserve Bank of India has revised its policy rate several time this fiscal year to bring the inflation levels back to its comfortable zone. However, so far, RBI has been unable to contain inflation and now the tight liquidity situation is threatening the robust economic growth. Even the 9 per cent of economic growth is looking unachievable under this kind of policy environment and hawkish tone of the central bank. RBI, itself is in dilemma to contain inflation (surging due to demand side) alongside a task of maintaining the current pace of economic growth. VMW believes, the persisting tightness in liquidity and further increase in interest rates will eventually lead India to lose the ground of  modest economic growth.

Source: VMW Analytic Services. © 2011 VMW. All Rights Reserved. Read Copyright Policy.


As discussed in our research on the Indian Economy 2011, VMW seeing the current account deficit as a major cause of concern. Inflation is expected to come down in the next few months, however the political uncertainty in the country would make the foreign inflows a challenge to finance the trade deficit, since the inflows via portfolio investments or investments by the Foreign Institutional Investors (FIIs) are the major source of capital account and Indian equity markets are expected to remain range bound due to several economic and political challenges. So far this year, Foreign Direct Investments (FDI) remains robust and expected to outpace the previous year’s record. Further to our discussion on foreign investments, Finance Minister has proposed to make a favorable FDI policy and to review the investment guidelines every six months.


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India Economy 2011. Economic Expansion Would Be Continue Amid High Level Of Public Debt & Current Account Deficit.

Over the past few months, inflation is projected as the most crucial thing to look out for the year 2011. Economists believe, that inflation would remain high and will be a roadblock for the economic expansion, however VMW Intelligence expects inflation will come down to 6 per cent and it was largely risen by huge public debt. What is the fountainhead of this high inflationary pressure in the Indian Economy? Let’s discuss it now!

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Theme For 2011: Inflation

The new decade starts with the bang of inflation, and everyone believes it is going to impede the faster expansion of global economy. Predominantly, inflation is playing a bigger role for the policy makers to factor in while cogitating the policy for the sustainable economic expansion and without affecting the current economic growth rate and this trend in real is followed across the globe as the apprehension of discernible impact of inflation on the economy is high. India has a high inflation rate of around 8 per cent and core consumer prices is currently reading at more than 15 per cent, giving policy makers a food for thought for a stricter policy to contain the rise in prices, since VMW believes, high inflation could come down to 6 per cent in the next few months owing to expectations of good crop output resulted by good monsoon rains last year. For now, inflation is rising because there are some reason, which does exist. fundamentally, inflation is rising due to supply side constraint and inflation is not only making a new monthly highs alike gold prices in India, but other largest emerging economies such as China, Brazil and Russia too has high inflation rate at 5.1 per cent, 5.63 per cent and 8.1 per cent respectively and developed economies are also seeing the risk of high inflation. The reason is simple, one: food prices and two: economic recovery around the world pushing commodity prices upward. For every country, abnormal inflation is a problem (deflation too!). What does abnormal inflation means here? VMW have used this term in the context of micro economy for the middle-class population of the country. India’s annual food price inflation rate is more than 15 per cent and making it rowdy for the people to survive with high inflation rate (that’s why, VMW is maintaining negative Political Outlook for the country). At the bottom of the production pyramid of an organization, the price of an article is rising significantly and directly impacting the consumers and inflating the price of the basket of goods. Moreover, consistent rise in government borrowings and expansion of money supply in the United States or so-called Quantitative Easing has also propelled the higher growth in inflation as the expansion of money supply means, more dollars or rupees in hand to spend.


What The Year 2011 Stores For India?


People’s perception about the global economy has still not changed even after robust recovery in economy from the bottom. People’s concern is sustainable job environment, which is still not there and would take more time to repair. Domestic consumption is on high in the emerging economies and those economies are now leading the global economic expansion. Year 2012 could emerge as the revival of the next business cycle (i.e. expansion).


VMW has given inflation as the year 2011’s theme and it’s evident that food prices, expansion of money supply in the United States, stimulus packages announced during the economic crisis and economic recovery sending the commodity prices higher are the tangible factors for the higher inflation figure across the emerging economies as well as the industrialized economies. If we make a focus on the Indian economy, India, so far, has maintained a good resilience in terms of economic expansion but, nevertheless, the recent boutade of scams, fresh highs of corruption level and lack of policy reforms from the UPA government for faster economic growth has made a significant impact on India as an investment destination. Here, VMW has the another concern, which is Current Account (CA) Deficit. Current account deficit is expected to expand further backed by depreciation of Indian Rupee (due to high inflation and real interest rates) will make imports dearer and India’s largest import product is crude, higher crude oil prices as projected and lower expectations of foreign capital inflows.


Source: VMW Analytic Services (©2011. VMW. See Copyright Notice)


For FY2009-10, and FY2010-11 (Apr-Sep), India’s current account deficit was $38.38 billion and $27.9 billion respectively and India largely depends on the portfolio investments as well as foreign direct investments to finance the minus CA. The oxidized image of India followed by the intransigence mismanagement in the allotment of 2nd generation of wireless technology spectrum would make an impact on the foreign investors’ sentiment (the main source of the capital account) and it becomes hard for India to finance the CA deficit through short-term financing (which is a typical FII investments in India). Although FDI is better than the portfolio investments due to the longer time horizon and stable source of financing the negative current account. However, that too has seen a reduction due to the tough entry barrier because of lack of economic policy reforms, which was supposed to be introduced during the last fiscal year.


India has a wide range of corruption. Accentuating the subject, private sector is always accountable for fostering the corruption in a country and India has a long way to go to ameliorate its regulatory framework to counter it. Every country has corruption, however it should not become a norm.


As per local media, year 2010 declared as the year of scam. Apparently, India is a capitalist economy and almost every country in this world has a certain level of corruption. It is not startling, that India has seen multiple scams in a wide range of issues (of course the extent of corruption matters, too)  but here the question is, how the country deal with those issues and the ability of its judicial system to resolve it. Although, certain system can stand some corruption. However, India has the systematic corruption in the certain system, and it should be checked with priority. But VMW does not believes that these reasons will play a significant role in the economic growth for a longer period, since the country’s justice department is accountable to fix those issues and India is efficient enough in this regard.

Public Debt & Political Outlook: Our main focus has shifted from inflation to recent political instability in India. Political developments is enough to equate the real interest rate either high or low. If we discuss the economic outlook for the year 2011, inflation, interest rates, current account deficit and depreciation of local currency could be the reason for slowing the down the economic growth. RBI is worry about the only thing, which is inflation and to control that thing, it would virtually hamper the dream level of economic growth (10 per cent). We still believes that the country’s economic progress to continue to persist but certain macro issues will cut the economic outlook to certain extent and will keep foreign investments away from the economy i.e. scorching level of public debt. Rise in government spending and widening of fiscal deficit would jeopardize the economic growth. Since, we already projected that the inflation will come down to 6 per cent in the next few months however, the public debt and loose in fiscal policy will almost lead to rise in real interest rates, and downside in real economic growth. 


Source: VMW Analytic Services (©2011. VMW. See Copyright Notice)


As per VMW Analytic, India’s public debt swollen to 76 per cent of the total GDP. Inflation is rising, real economic growth is at risk, interest rates are on the growth track leaving all worries to central bank. Government has total control to its control panel to monitor all the situation. A tight fiscal policy will increase confidence over the debt sustainability and virtually increases real economic growth, reduces pressure on the interest rates. If we go through our analysis, over the past few years, specifically since fiscal year 2007-08, borrowings of central government has seen a significant rise. Since fiscal year FY-2007 through FY-2010, public debt grew at 10.45 per cent annually (compounded annual growth rate) in comparison to 6.48 per cent from FY-2003 through FY-2006. For a sustainable economic growth, India needs to maintain it fiscal policy to curb risk premium. Moreover, the political uncertainity could jeopardize the fiscal balance of a country and it is extremely important, that government should work with the opposition parties to avoid any circumstances, which is not healthy for a capitalist economy.


Endnote: Nevertheless, west is rebounding and demand for east’s exports are increasing gradually. In our previous economic research, VMW has projected the higher supply side inflation, now which can easily be seen, but it will come down soon. India’s public debt zoomed to more 76 per cent of the total GDP, which is much higher than our previous economic outlook research (55 per cent was then) and the further fiscal imbalances and rise in government cash balances will keep inflation on the higher side for the next few months but the we have projected the cut in inflation rate backed by lower food price inflation. Since, the central bank’s responsibility is to keep the moderate inflation rate, liquidity in the system is expected to remain narrow with high interest throughout the year. Even though, RBI has raised its policy rates by more than 100 bps in the past fiscal year, however we does not rule out the further revision. RBI is ready to revise interest rates further and even ready to hamper the economic growth to certain extent to control inflation up to its comfortable level or at least somewhere around its comfort zone levels (which is 5 per cent). It’s obvious that high interest rate would make an impact on the Indian companies’ finances, since much of the companies are having debt in their books of accounts, resulted higher interest cost hitting the company’s bottom-line and halting the investments plans.

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India’s Monetary Policy Update: The Impact of Monetary Tightening. Banks Are Under Significant Liquidity Pressure.

Inflation rate in double-digit and much higher than the comfort level gives RBI  food for thought, resulted in hike in policy rates by 150 bps, which put the liquidity situation under high stress. Although, further rate hike is not imminent, but inflation would drive the monetary policy further and interest rate expected to remain high.


Headline inflation is always considered as a major vexation for the India’s central bank. Since, inflation was reading in a double-digit figure, it was a challenge for the Reserve Bank of India to fix the inflation problem under the condition of fragile global economic recovery without denting the recovery process. In response to that, RBI revised its policy rates by over 100 bps and now it does seem that the policy action is working (see the figure) but the money supply is still at 20.34 per cent. Both trend line are now acting inversely, and inflation is falling down to 8 per cent. According to VMW Research, inflation is projected at 7.48 per cent for the month of Nov, 2010. It is also evident that in the past three months, schedule commercial banks and non-banking financial companies have started borrowing from the RBI’s window of Liquidity Adjustment Facility (LAF) at the rate of 6.25 per cent. Since, banks are now left with the limited amount of liquidity, they’re again focusing on deposits from customers. Several banks have revised their deposit rates between 50 bps and 150 bps to attract funds, however, going forward, banks will see a narrow interest rate spread, resulted in lower earnings.


Prospect of Liquidity and Interest Rate

By going through the given above graph, should RBI tight its monetary policy further to keep inflation under control, since the 150 bps already become nasty to the banks and consumers? It is good to know that the RBI’s policy is working to quell higher inflation. However further revision in interest rates in the near term (although RBI indicated temporary pause in interest rate hikes) would be inimical for the economy, since India’s core economic strength is its domestic consumption, and the same is already started fading or set to fall. Perhaps, inflation would remain above the comfortable zone of 5 per cent given the fact that the money supply is above 20 per cent, higher commodity prices such as oil, base metals, although food price component of the inflation index is expected to ease-off owing to strong crop output backed by good monsoon rains.

Discomfort levels of inflation and money supply will keep interest rates higher for the next few months. Moreover, to reduce the impact of tight liquidity, RBI has already started the Open Market Operation (OMO) to infuse liquidity by way of purchasing government bonds in exchange of money.

Indian Economy 2011: Economic Expansion Would Be Fragile But It Is Expected That Growth Would Be Inclusive & Sustainable.

Global economies are broadening from the economic downturn since year 2009 and still continues, although the growth is categorically fragile and needs to be proctor by the government until the shift in Business Cycle. Withal, VMW sees a lame foreign policy towards Pakistan would be a troublesome for India in the long run.

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Important: VMW Research Team is considering to superannuate this research due to non-relevance of the facts in the current economic context. Please peruse our latest research on the global economy.


Key Stats for India
Overspending : 2.91%
Inflation : 8.90%
Trade Deficit : $23.1 billion
Industrial Production : 13.76%
Equity Returns (YTD) : 16.85%

 Read the latest VMW-Sift Research on India’s Economic Outlook.

Major Forewarn

  • To ensure basic education to all. Education is still a major challenge and India should expand their budget towards the education and to make sure to provide at least basic education (high school) to all. VMW believes, expansion of education budget is extremely important for India to sustain at a level of higher economic growth and to supply quality human resource for the next generation.
  • Heavy investments in Social Infrastructure.  Since Indian government has already committed to invest up to $1 trillion in infrastructure, however the pace of development is very slow in proportion to the economic growth. Asia’s third largest economy is attracting billions of dollars in terms of portfolio investments and foreign direct investments and transforming itself as a best investment and market destination for the investors but to keep up the momentum, infrastructure development needs to step up moderately.
  • Invest in Entrepreneurism: Make India as a source of new innovation to lead the next generation. Indian government should start focus on the entrepreneurism to give people a platform to exhibit their bright ideas which enables to transform their ideas into the potential corporation.

Good times are, seemingly, ahead with the sustainable growth  amid persisting higher inflation, appreciation of currency against the US Dollar, trade gap and ameliorating tax policy. On the above key stats, overspending or fiscal deficit for the fiscal year 2010-11 at 2.91 per cent of the total GDP till Jun, 2010 and VMW estimated total fiscal deficit at 3.9 per cent. It is indeed lower than the budgeted estimates – largely supported by the auction of 3rd generation mobile technology spectrum, which yields the Indian Government about $22 billion. Apparently, fiscal deficit (was a preliminary problem) is not a cause of concern since the government is sitting on an ample amount of cash and could expand their spending on a much-needed social infrastructure such as Unique Identification or UID system for the Indian citizens to get them eligible for the several government schemes (prevailingly benefited for the lower-income group people). Most importantly, however,  on the other side, India’s geo-political relations would be nagger, which the VMW is seriously cogitating and seeing it as one of the major challenge for India going forward. Pakistan, indubitably, is the major challenge for India to handle the fragile relations with the western border sharing country. Since 2008 Mumbai Attacks, relations between both countries has strained and needs an urgent resolution to abate the rising threat of unamicable situation between the nuclear holders and it could disrupt the trade as well as diplomatic relations. India as a “state” is a competitive economy and a representative political system. The recent most sensitive judgment on Ayodhya‘s Disputed Land lawsuit filed by the several parties for the title of land ownership has proved India’s efficiency towards the system of justice, socio-economic, sustainable security, stability in politics via quality leadership and signaling further strong civilization in the country, which is extremely important for an economy which is attracting investments round the world.


Debate Over Quantitative Easing 2 (QE2)

Economic challenges for the United States might be prodigious, however the recent policies should not be a solution for the US to re-emerge from the painful unemployment situation in the country. The overstated tone of the US President in the past few months have sparked a thought of “Protectionism“. US, which is always known for its dynamic economy, biggest corporations and avant-garde entrepreneurs is now becomes a propagandist towards the protectionism. Indeed, the United States is a pillar of the global economy but there is an urgent need of consistent government policies to promote trade, tax holiday to the smaller companies to improve employment opportunity and pacified business financing for smoother function of business. For that purpose, central bank’s involvement in every government policy is desperately needed. In India, central bank, Reserve Bank of India have revised interest rates to curb rising inflation but the inflation is not a concern for the industrialized economies and there is an urgent need of expansion of money supply since there is no room for further rate cut as the central banks running on the Zero Interest Rate Policy (ZIRP).

The recent controversial move by the US Central Bank, Federal Reserve to expand the country’s money supply by purchasing treasury bonds worth $600 billion have sparked the debate and facing dissent from the emerging nations like China, Brazil and the advanced nations like France and Germany, however the Fed’s move is absolutely best in the US’ interest and it should be keep in mind that the stability in the US economy is absolutely necessary for the global economic growth. Although, it might be a problem for the emerging nations since they’re worrying about their economy being flooded with the fresh hot money, however this could be a solution for a continous stable recovery. Japan, the world’s third largest economy, which is fighting against the sharp rise in Yen (ISO 4217 Code: JPY) and Deflation, its central bank, Bank of Japan too has cut rates to around zero. Bank of Japan also committed to buy $60 billion worth of Japanese securities, which is clearly giving the signal of infusion of fresh money into the system, which is a bolster for the Japan’s ailing economy.


 Data Source: VMW Analytic Services (© 2011. VMW. See copyright notice)


India Economy 2011 Prospect With Global Economy In Contrast!


India has never faced as worst situation as the western economies have faced. It was just an experience of slower export, bad liquidity condition which hampered the developing economy to keep on the spectacular growth. Now, Indian economy is prospering with its own sturdy domestic demand amid high level of poverty. Corruption is still a matter of concern and mismanagement at the organization is also a crucial part which is impacting the sustained economic growth. India’s accounts reporting system is letting tens of thousands of companies evading tax. According to the VMW Research, India’s tax department is losing almost $11 billion in terms of tax revenue every year and unorganized sector is the major contributor to the tax evasion. Despite of recent developments in the last 15 years, when the Indian taxation system has undergone tremendous reforms, but lack of transparency in the tax policy is still leading to the higher loss of tax revenue, which should be meliorate with the moderate tax policies. The recent debate over the implementation of Direct Tax Code or DTC from FY2012-13 would improve the tax laws and simplifies it further. India still has a long way to bring taxation reforms in order to prop-up tax revenue to cut the fiscal deficit because, year 2010 cannot be repeated again and again, where the government was able to raise hunky amount of cash through the sale of 3rd generation mobile technology to the mobile operators and most importantly, India was able to cut its overspending (fiscal deficit).

Liquidity Update: Stock of Money, Inflation and Overnight Lending Rates. India needs long term foreign investment inflows.

Inflation in India is one of the principal subject for the policy makers. Even inflation at eight per cent – RBI is at sixes and sevens to fix the price crisis amid disquietude for the stable and target of double-digit growth rate for the economy. While the food price inflation is over 16 per cent and the wholesale price inflation is over eight per cent, it makes a fuss since both benchmarks are passe and needs to be reconstructed or revamped with newer commodities. Government officials says, food prices will come down in the next few months, but is there any hope for the same? Food prices are rising, thanks to the watchword of fastest growing economy, since the domestic demand is rising without pause (and would continue to rise) and at the same time, supply would not be able to conform to the rising demand. The rise in food prices are realistic and could not seem to be pacify in the next few months, however the good monsoon this year might be a solution for the rising food prices, though the RBI’s monetary policy has different facet. RBI is fixing the inflation problem by tightening the money supply and demand side problem (food price inflation index) cannot be fixed straightaway. Consequently, going forward, inflation would continue to be problematic for the central bank as it is not expected that the inflation would come down to below five per cent in the next couple of months due to volatility in commodity prices and strong local demand. RBI’s policy stance would be inflation hawk but it is not certainly pointing towards the consistent rise in interest rates. There are other several measures, which are available with the central bank and it is expected that the RBI would target the foreign inflows to certain extent to contain the swift appreciation in Indian Rupee (ISO 4217 Code: INR) or sell enormous amount of Indian currency to impede  further wild appreciation against the US Dollar (ISO 4217 Code: USD).

On the monetary situation, RBI, since Oct-2009, revising interest rates to ensure that the excess liquidity in the market would not be use in a risky assets since the economic recovery is too fragile. RBI has revised its policy rates by more than 300 bps and room for further tightening is still available with the RBI. It is now clearly visible that the commercial banks have started borrowing from the RBI’s repo window and many of them have revised their lending rates and deposit rates to keep up their capital adequacy ratio and sufficient liquidity for a proper credit growth for the sustainable economic growth.


 Data Source & Projection: VMW Analytic Services (©2011. VMW. See Copyright Notice)


Indian Economy so far has vastly exceeded expectations. Perhaps, the shining growth would continue. apparently, VMW has revised the GDP growth estimates at 10 per cent for the fiscal year 2012 and maintaining this growth rate. India could see the double-digit growth rate (refer to the above figure of GDP over the past 60 years) backed by the immense foreign inflows, unabating rising domestic demand, boosting agricultural output, government’s bolster for the infrastructure development will spur the economic growth and employment opportunities further for the next five years and it is certain that India would grow at double-digit growth rate. For this fiscal year 2010-11, according to the government authorities, Indian economy is expected to grow at 8.5 per cent and 9 per cent for the next fiscal. On the other side, Current Account of the Balance of Payment (BoP) is expected to be at -2.7 per cent of the total GDP for this fiscal and to expand further by 0.2 per cent to -2.9 per cent for fiscal 2011-12. India’s merchandise trade deficit would hard hit due to local currency appreciation, anticipation of higher crude imports and non-crude oil imports and VMW expects, Rupee will appreciate to INR42 for a US Dollar. In this situation, RBI would intervene into the foreign exchange market (since INR is a managed float type of currency) to curb appreciation and maintain uniformity.

Since the Agriculture & Allied sector is one of the most significant part of the Indian Economy, dependency on monsoon is also higher. This year had a better than anticipated rainfall in the prominent parts of the country and kharif crop will see a strong output this year along with the signification availability of resources for the rabi crops, which will improve the farm sector growth by at least 4 per cent and it will improve the overall economic outlook for the next fiscal too. On the country’s industrial growth, service export, which accounts for 5.8 per cent of the India’s GDP, will continue to be sluggish since the major export customers of the Indian IT Services are the United States and Western Europe, which are still fighting for the “sustainable foundation” of economy. Mining sector on the other side has a robust growth in the past few quarters and still progressing with higher growth prospect due to oil & gas activity, while growth registered by the manufacturing sector largely driven by the domestic demand.


 Capital Inflows, Financial Market & Overall Economic Outlook


  2010 2011 2012
Real GDP Growth 9.70% 8.40% 10%
Consumer Prices 8.60% 5.70% 5.50%
Current Account -3.1% -3.1% -2.3%

So far, year 2010 has attracted over $21 billion in terms of Portfolio Investments in the Indian equity markets and over $15 billion have been raised through the initial public offerings. Since the foreign investors pouring billions of dollars in emerging markets to earn good amount returns over their investments. Right now, equity is one of the most favorable investment option, since it is giving the handsome returns in a short span of time. As the US central bank, Federal Reserve is planning to buy $500 billion worth of bonds, this would further expand the kitty of the investors, which will come into the capital market. Furthermore, the corporate earnings, more or less, are better than expectations and supporting the anticipated rally in the equity markets. India will see the further inbound foreign direct investments – would able to attract over $90 billion of capital inflows, which will be use to finance to abate the current account deficit to certain extent, thus India has no, but at least slight, problem as far as the macro economy is concerned. The major tussle is inflationary pressure on the Indian economy, which is a  rowdy challenge and currently reading at two times of the comfort levels (set by RBI). VMW expects, that the inflation would continue to put RBI on its toe and further tightening of liquidity is expected over the next couple of quarters. More importantly, going forward, RBI would consider to curb foreign inflows into the country to prevent heating-up of the economy, since India is the best investment option from the global investments perspective.

Per the observation, global economy would continue to recover, though it would be flimsy, however the world economies are set to see a major change in business cycle from the year 2012 and global economies would expand at a rapid pace with strong fundamentals framed by the government authorities and revamped strong financial system.

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