C+I+G+(X-M)—JP Morgan's Sajjid Chinoy On Where India's Post-Pandemic Growth Will Come From?
C+I+G+(X-M)—This ubiquitous equation adds up the country's GDP.
As the Indian economy emerges from the Covid crisis, the question being asked is which component of that equation will contribute most to GDP growth? Will it be C or consumption? Will it be I or private investment? Will G, or the government, have to do the heavy lifting? Or can (X-M) or net exports give the economy the much-needed boost?
JPMorgan's Chief India Economist Sajjid Chinoy believes that two of these components—public investment and exports—could support growth in the economy over the next six to eight quarters as we wait for consumption to strengthen and private investment to pick up.
The question we must ask ourselves is if demand is a constraint and private consumption will not deliver that demand in the short run, where can that demand come from? People are looking at C and I, we think it will have to be X and G.Sajjid Chinoy, Chief India Economist, JP Morgan
How Quickly Will Consumption Come Back?
Private consumption, driven by leverage in more recent years, kept the Indian economy going when private investment was absent.
Will job and income losses brought on by the Covid crisis weaken consumption? Or will the top 10-20% of consumers, who escaped unscathed and saw asset values rise, step up spending?
Chinoy is cautious on how quickly strength in consumption will return. He points to the fact that disposable income-to-GDP, between 2012 and 2019, fell by two percentage points and consumption-to-GDP in that period rose by four percentage points. This, as consumption was financed out of households running down savings and taking on debt, he explained.
But this consumption growth had started to slow well before the pandemic and even before the NBFC crisis of 2018.
If households were worried about their balance sheets coming into the pandemic and there's been more scarring in the pandemic, it's hard to expect a big booming consumption recovery. You will, of course, get pent-up demand but we should not conflate that with the underlying trajectory of consumption ... No doubt there is a price effect here, real interest rates are lower, monetary conditions are easier, but I would argue the income effect on the balance sheet will swamp the price effect.Sajjid Chinoy, Chief India Economist, JP Morgan
Like in many other parts of the world, India, too, has seen a K-shaped recovery.
This, according to Chinoy, is an income transfer from the bottom to the top. "For every $1 that moves from the bottom to the top, marginal propensity to consume is actually lower at the top than at the bottom," he explains. "So, in the steady state one should expect consumption to shift down, not up."
GDP data for the September 2020-March 2021, when the economy started to recover, bears out that analysis. "Among all the drivers of demand consumption, investment, government spending, exports—consumption was the slowest and the weakest to recover back to pre-pandemic levels," Chinoy said.
Rising household debt and muted expectations of future earnings could come together and imply more cautious consumption.
I think levels of debt influence consumption when they interact with expectations of future income. If you've got robust expectations about the future then even higher levels of household debt won't become a binding constraint. The worry really is that given the scarring and given how we came into the pandemic, households, going by multiple surveys, seem wary about the future. When that happens, they typically tend to retrench (spending).Sajjid Chinoy, Chief India Economist, JP Morgan
Private Investment: New Constraints
If consumption growths remain lukewarm, private investment will also remain subdued.
While the twin balance sheet problem—high corporate indebtedness and under-capitalised banks—has eased, the new constraint of private investment will be weak demand. Capacity utilisation has remained at below 70% and until demand picks up meaningfully to push that up, fresh investments will remain slow, Chinoy said.
He also cautioned that while large corporations have seen their balance sheets strengthen, smaller businesses may not have. This could impact the ability of this segment of the economy to invest.
I think the good news is that the large corporates are a much better place to invest in the next investment cycle. The binding constraint today is demand. Investment is endogenous. It needs some driver of demand to actually react to. Also, we shouldn't forget the role of SMEs. If you break India's investment down into large corporates, households, SMEs and public, the fall in the last decade has been households and SMEs.Sajjid Chinoy, Chief India Economist, JP Morgan
Public Investment & Exports
If consumption and private investment do not provide a push to growth, then what will?
Chinoy believes it will be public investment and exports. Strong global growth, he said, could help keep exports buoyant. Merchandise exports are almost 20% higher than pre-pandemic levels. Even after adjusting for the price effect due to higher prices, manufacturing exports are growing in double digits.
The elasticity of India's exports to global growth is still very strong. This is particularly true because India's export basket has changed. There used to be a lot of gems and jewellery, leather, textiles in it. Now, a lot of it is engineering goods, capital goods, auto parts, pharmaceuticals and those elasticities are actually higher to the global growth.Sajjid Chinoy, Chief India Economist, JP Morgan
Underlying the expectation of tailwinds from export growth is a belief that years of "secular stagnation" globally will make way for a new normal. This new normal could mean developed markets grow at about 5% over the next two years. "That, all else equal, should provide a meaningful tailwind for India's exports and we're already seeing that."
Public investment will be the other support to growth.
Both the central and state governments have budgeted for 30-35% growth in capital expenditure this year. Data available for the April-June period suggests that at least the central government has kept up the pace of spending.
April to June, revenue expenditure, net of interest, contracted 7% but the central government ploughed through with the capex which grew almost 25%. That's really encouraging. To the extent that we may see some positive surprises on the revenue side, (any concerns on revenue shortfall) will hopefully not impinge on these capex plans later in the year. I think what's important to monitor is whether the states can actually execute on the high capex plans that they've budgeted.Sajjid Chinoy, Chief India Economist, JP Morgan
Potential Growth & Total Factor Productivity
The need to focus on growth, Chinoy said, has never been been this acute. "For job creation, ameliorating incomes and debt sustainability, potential growth and (the need to ensure) medium-term growth never felt this urgent."
Amid this, assessing India's potential growth is important. It is also important to understand it in light of core inflation which remained elevated even as demand fell sharply.
"Is that telling us something about the supply-side that we need to take into account going forward? We've seen this K-shaped recovery where large firms have grown their market share. Is that resulting in higher pricing power? Has the impact on SMEs, and therefore competition on the supply side, been more than we think? These are all tell-tale signs that looking at potential output afresh is going to be very crucial going forward," Chinoy said.
In assessing potential growth, Chinoy hones in on total factor productivity or, broadly put, productivity in the economy. "If you look at India's growth in 2005-2006, TFP contributed five percentage points to potential output back in 2005-2006," he said. "That in our computations, this is all pre-pandemic, it's come down to two-and-a-half percentage points."
Public investment, trade openness and a strong financial sector are typically determinants of productivity. Each of these, according to Chinoy, will need attention in the post-pandemic period.
"If you can boost productivity growth, wages will go up, when wages go up and incomes go up, that creates the conditions for more sustainable consumption."