By Ishita Misra
Indias economic growth in April-June dropped to a three- year low of 5.7%. According to a Morgan Stanley report, the drop in economic activity was caused by Goods & Services Tax (GST) related disruptions. The global financial services firm believes that despite the slowdown in manufacturing activities, the underlying growth momentum of the economy remains strong and will propel the economy to grow at 6.7% this fiscal year. However, GDP growth has been declining steadily for six straight quarters, suggesting that there exist factors other than demonetisation and GST that are responsible for the slowdown of the economy.
Slowdown of growth
The gross domestic product (GDP) and gross value-added (GVA) have been falling since June 2016. Considering that demonetisation was announced only in November 2016, followed by implementation of GST in July 2017, tapering of economic growth from June 2016 suggests that the economy was weakening even before demonetisation took place. The slowdown of the economy can particularly be seen by looking at the performance of the industry sector, construction sector and decline in exports.
Growth in GVA of the industry sector plummeted from 10.3% in first quarter of 2016 to almost 6% by the end of the September 2016. The growth in GVA declined for the construction sector as well, from 6.04% in the last quarter of 2015 to about 4% by the end of the third quarter of 2016. Furthermore, the net exports fell from -0.02% in March 2016 to -0.79% in September 2016. Therefore, the economy was already slowing down when it felt the effects of demonetisation and GST. Implementation of GST merely enhanced the disruption in the growth of the economy as the implementation of the new tax system led to a decrease in manufacturing activities and hence, led to the further slowdown of the economy.
The Morgan Stanley report states
Morgan Stanleys interpretation of the GDP numbers was that they do not signal a general slowdown in aggregate demand. The firm believes that the GDP statistics do not completely reflect the underlying growth trends in the economy. The report further mentioned that many high-frequency growth indicators are indicating that end demand is holding up well and countering the slowdown exhibited in the national accounts. As the effects of GST and demonetisation have already played out, the underlying growth momentum is expected to reassert itself and lead to rapid increase in growth. Therefore, June 2017 is believed to have marked the trough in growth and GDP is expected to grow by almost 200 bps to reach 7.5 % in the March 2018 quarter. According to the firm, India is moving to the next phase of a business cycle with productive growth that will be marked by improvement in growth and macro- stability.
Remaining the fastest growing major economy
The rise in government expenditure has been one of the biggest aids to the economy during a period of declining growth rate. The increase in government spending has led to India having one of the largest budget deficits among the developing nations, with the deficit amounting to almost 8% of the GDP. The large budget deficit leaves little scope for investment in areas such as education and healthcare. Thus, the government needs to employ methods of economic growth that strengthen production and demand in a sustainable way. Even though the economy is expected to do better in the current quarter, the improvement is largely due to remonetisation and the firms restocking after the disruption caused by GST. However, considering that the decline in economic growth started before demonetisation, further measures are required for India to hold on to its status of the fastest growing major economy.
Featured Image Source: Flickr