India continues to outperform the more developed economies

Thursday, July 15, 2010 | Posted by: Grant Summers
Categories: | Tags: India, finance, investment, Grant Thornton, global, South Asia Group, South Asia, economic, Alex Wright, Indian Economy

Now that we are more than half way through 2010, we are in a position to take stock of the first 6 months of the year and look ahead to what the second half of this year may hold for the Indian economy.

The Indian economy has, over the past 6 months, continued to outperform the more developed economies of the Western world. Whilst the West continues to entertain the possibility of a double dip recession, India has maintained and developed its growth strategy. From January to March 2010 (the final quarter of fiscal year 2009/2010), India’s year-on-year real GDP growth reached 8.6%, an unprecedented level of growth in comparison with the minimal GDP growth levels seen in the West over the past 2 years. This growth level not only reflects an increase in quarter-on-quarter growth in India, but brings the full year GDP growth rate to 7.7% - an extraordinary increase, given the recent global economic turmoil.

However, this level of growth may prove to be ‘unmanageable’, and it is already translating into higher inflation rates. This ongoing increase in inflation (11% in June 2010, its highest points since 1995) has led India’s central bank, the Reserve Bank of India (RBI), to raise interest rates for the third time (up 75 basis points) since February of this year. This action, taken on 2 July, was another attempt to curb inflation levels, but, nevertheless, there have been suggestions that the Government is not doing enough to stall inflation. Indeed, certain Government actions have been seen as counterproductive to this aim, such as the recent decision to liberalise fuel prices - a much needed, yet politically unpopular reform, intended to help public finance – which could push inflation levels even higher. As the inflation rate continues to climb, it is likely that the RBI will be forced to raise interest rates even further. While there are obvious risks involved in making drastic changes in these unstable times, there is a strong view that the RBI should be acting more assertively if it wishes to have any real impact on inflation.

Looking forward, India’s fortunes are dependent on a number of factors. Clearly, it is vulnerable to a double dip in the economies of the West, which would severely affect the Country’s growth plan. However, India’s challenges don’t end there, perhaps a more real threat to economic growth is the size of the fiscal deficit. The desperate need to enhance infrastructure and address persistent poverty levels will require an enormous level of future Government spending, which will counteract economic growth and severely hinder deficit reduction. As a response, Finance Minister Pranab Mukherjee recently announced the intention to increase taxes – an inevitably unpopular decision, but one which seems like the only viable option for a country which must take a large step towards a reduction in its deficit.

All this being said, India’s economic performance over the last 6 months has been unprecedented and future growth looks set to continue. To put the rate of growth in perspective, the gap between the Indian economy and that of China is fast closing, as numerous commentators are pointing out. China is still significantly ahead of India in terms of year-on-year GDP growth, but, as India’s growth story continues to pick-up pace, a reduction in the GDP gap between the two countries seems inevitable.

In summary, notwithstanding the inflation and fiscal deficit issues, India continues to be one of the ‘hottest’ investment opportunities available to foreign investors, and with investor confidence returning to Western markets and the number of IPO’s noticeably up on the same period last year, we are likely to see a greater number of Indian companies looking to raise capital on the London markets. Essar Energy plc, now a FTSE 100 company and with a share price up nearly 18% since listing, is leading the way where, we feel, many will follow.

Alex Wright
Executive, Capital Markets, South Asia Group
Grant Thornton UK LLP