An overview of the Indian Economy

Thursday, October 13, 2011 | Posted by: Grant Thornton
Categories: India, India Watch Issue 14 | Tags: India, economy, growth, India Watch, inflation, FTSE, economic growth, IMF, growth rate, Dow Jones, Indian Rupee

As we enter the final quarter of 2011, the world’s economies remain on a knife edge. Economic concerns coming out of the US and the eurozone continue to cause uncertainty across global markets. These effects can be clearly seen across the world’s market indices. For example, in the year to date, the Dow Jones has seen a fall of nearly 6%, the FTSE 100 a 12% fall and India’s Sensex Index is down a remarkable 23% (with the last quarter seeing the worst fall for almost 3 years).

In February of this year, India’s Government assumed economic growth of nearly 9% in this fiscal year. Even without the benefit of hindsight this was a highly ambitious target. However, since then, inflation has continued to spiral out of control and the budget deficit remains extraordinarily high. Furthermore, legacy issues such as slow infrastructure development and investment continue to bite at the country’s heals; with poor infrastructure now thought to add roughly 2 percentage points to inflation.

India’s economy grew by 8.5% in the last fiscal year but slowed to 7.8% and 7.7% in the quarters ending March and June, respectively. Some economists are predicting that India’s growth rate is set to slow further due to the impact of 12 interest rate increases in 18 months, continued inflationary worries and the effect of diminishing export levels to the world’s major economies, many of which are facing years of economic stagnation. Furthermore, The International Monetary Fund recently cut its India growth forecast to 7.8% in 2011 and 7.5% in 2012, from 8.2% and 7.8% in June, respectively.

As mentioned above, inflation levels continue, as ever, to be at the forefront of India’s economic issues. Persistent inflation levels, which are clearly far in excess of targets, have forced the Reserve Bank of India to raise interest rates again, even as growth levels around the world slowdown. If the Indian Government can’t correct the nation’s inflation rate soon they risk prolonging the depth and duration of this downturn significantly.

To make matters worse, at a time when significant investment is needed across the country, investors continue to reduce their exposure to emerging markets. The effect of this on the Indian Rupee has been to weaken it by around 9.5% against the dollar so far this year - the biggest drop out of the 10 Asian currencies excluding Japan’s yen, according to Bloomberg data.

The Reserve Bank of India highlighted the Rupee’s fall in its policy review last month. This issue was made all the more significant following its intervention to help try and stabilise the price two days earlier. Unfortunately, however, the Rupee is tightly correlated to the Sensex, which in turn, is largely driven by foreign investment flows and, according to macroeconomist Renu Kohli, $1.8 billion was withdrawn from India’s markets in August due to the current risk aversion of global investors. On this basis, should economic worries persist, the Reserve Bank of India might find themselves having to take substantially more action to remedy the situation.

As highlighted above, there are a number of external factors affecting India’s economy, but the Indian Government should now be doing its utmost to minimise these effects. We should not forget that in relative terms the Indian economy is growing unlike most other economies of the world which are in stagnation and turmoil. If the Indian Government is able to move past its much publicised corruption issues and get a firm grip on the current economic stagnation and the lack of direction, it might be able to bring India back from the path which it is currently on.

Anuj Chande
Corporate Finance Partner
and Head of South Asia Group
Grant Thornton UK LLP
T +(44) (0)20 7728 2133
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