‘India on the rise’ theory will be back in reckoning

The change in guard in New Delhi could see a reversal of the comprehensive paralysis that largely marked the UPA government’s second term. Dr. M.S. Kapadia hopes that the new government will signal a return to a period of sound and stable governance backed by speedy reforms and clearances that will rejuvenate project investment over the next five years.

Mirroring the nadir reached in project investment, domestic fixed capital formation declined during 2013-14 at constant prices. This was the first decline over the past decade and only the 13th y-o-y drop since 1950-51, with most of them happening in pre-reforms period before 1991. The rot followed the erosion in the growth rate from 12 per cent in 2011-12 to 0.8 per cent in 2012-13. Before this, the growth rate had picked up from 3.5 per cent in 2008-09, when the economy was mauled by global meltdown, to 7.6 per cent in 2009-10 and 10.4 per cent the following year.

The rapid decay in project investment in just two years, compounded with sub-5 per cent suboptimal economic growth putting question marks on the validity of “India on the Rise” theory, was largely due to domestic problems including deepening policy apathy and governance deficit of the UPA II government at the Centre.

Project mortality spiked–over Rs. 17 trillion capex has got stuck in stalled projects. According to Projects Today compilation, project start-ups dropped and project execution period inordinately lengthened. The investment scenario has turned out to be very unfriendly due to policy confusion and hurdles in forest, land and environment issues. This has vitiated the economic and financial viability of projects, dampened enthusiasm of project promoters to go ahead with projects, and led fund-strapped India Inc. to cut down on new capex plans.

There was comprehensive paralysis in reforms and clearances, governance fell to new lows and policy actions were fewer, halting and confusing in last two-three years.

Deterred by possible action from corruption allegations, bureaucrats also preferred to stay away from taking decisions. Private sector was confused on long-term perspective as there was lack of policy guidance, made worse by several flip-flops in existing policies, which together with falling profitability made India Inc. wary of committing huge capex in long gestation projects.

Indicative of the magnitude of lacking investment, the ratio of gross fixed capital investment to GDP at market prices, broadly the investment intensity of the economy, fell to 32.3 per cent in 2013-14, from 33.2 per cent in the preceding year and 35.3 per cent two years back. At current prices, the ratio of GFCF to GDPmp worked out even lower to 28.3 per cent in 2013-14.

GFCF by type of asset
According to detailed data, construction part of fixed capital investment increased 1.7 per cent during fiscal 2013, against a decline in investment in machinery, the first decline over past several years; yielding an overall fixed capital formation rate of 0.8 per cent for the year. While these details are not available for fiscal 2014, which shows overall erosion in GFCF, it would appear that construction part of investment either stagnated or declined and the decline in machinery deepened during the year. In this context, it may be noted that construction income was up 1.6 per cent and IIP of capital goods production showed 4 per cent drop during fiscal 2014.

Taking a longer period, construction rose faster than machinery investment in the second half of the 1990s with its share in fixed capital investment crossing 50 per cent on the turn of the century. The share rose more rapidly thereafter to scale to a peak of 55+ per cent during fiscal 2005 and 2006. However, the share has tended to fall subsequently; it fell to around 52 per cent in subsequent two years, 51 per cent in 2008-09 and 2009-10, 50 per cent in fiscal 2011, and 49 per cent average in 2011-12 and 2012-13 in terms of macro data from CSO.

The corporate sector plays a major role in plant and machinery investment, but not in construction where households (including non-corporate private business units) followed by public sector are major players. Interestingly, households that include non-corporate business units are outpacing private corporates in machinery investment in recent years. Their share in machinery investment increased from 28 per cent in 2004-05 to 34 per cent in 2013-14; whereas the share of private corporate sector in this eroded from 53 per cent to 47 per cent during this period. The public sector, largely PSUs, accounted for 19 per cent of total machinery investment during 2013-14.

GFCF by ownership
One of the major planks of the reforms is the truncated role of public sector in economic activities. Reflecting a relative success in this area, the share of public sector in project investment eroded steadily from 40 per cent in 1994-95 to 24-25 per cent during 2004-05 to 2007-08. The share of public sector increased to 26 per cent in fiscal 2009 and 2010 (due more to slack in investment by private corporate following global meltdown effects), but resumed downtrend in subsequent years to reach 24 per cent in fiscal 2013 (barring a dip of 21 per cent in 2011-12).

Private corporate investment enjoyed good shares during 1996-97 and 1997-98, followed by a prolonged slack in earnings and the resultant constrained project investment till 2002-03, and a rebound in earnings and capex during the subsequent five-year period that ended 2007-08. Thus, the share of private corporates in project investment increased from 27 per cent in 1993-94 to 38 per cent in 1996-97, then eroded gradually to 23 per cent in 2002-03 and sprang back to a peak of 42 per cent by 2007-08. But the following year, 2008-09, saw capex plans of private corporates getting badly hit due to dwindling profits, with their share in the pie dropping to 34 per cent.

Gross capital investment
Interestingly, the drop in the share of private corporate sector during the year in GFCF was offset mainly by households sector whose share in GFCF shot up from 33 per cent in 2007-08 to 40 per cent average during 2008-09 and 2009-10, with the next year, 2010-11, witnessing a decline in the share to a little below 40 per cent due to a rebound in overall GFCF. However, the subsequent two years, 2011-12 and 2012-13, saw the share of GFCF under households rise to a new high of 45 per cent average (due to subdued projects investment in the organised sector comprising private corporates and public sector). By the way, households are a residual segment in macro numbers compilation.
Going by indications, the private corporate’s share in GFCF should have further declined during 2013-14.

Gross fixed capital investment (GFCF) plus inventory change and addition to valuables (which is not classified by ownership or industry) equals gross capital investment (GCF). In addition, at aggregate level, conceptually there is another measure of gross capital formation which reflects the difference between income and consumption expenditure at macro level. A part of this aggregate that cannot be classified into assets or ownership is defined as errors & omissions (E&O). In fiscal 2013, at 2004-05 prices, GFCF was Rs. 20,020 billion, inventory change Rs. 1,066 billion, valuables Rs. 1,812 billion and E&O Rs. 80 billion, giving an unadjusted total GCF of Rs. 22,978 billion. By the way, valuables like gold, diamond, silver ornaments etc have increased three fold between fiscal 2005 and 2013, thrice the pace in GFCF.

GCF by industry
One thing that clearly stands out from investment data by sectors is the neglect of agriculture, forestry and fishing. The share of farm sector investment in total investment slid to 7 per cent by 2007-08, from around 10 per cent average between 1999-00 to 2002-03. Though fiscal 2009 saw the share perk up to 8 per cent it was more due to subdued industrial investment. The farm sector share in capital investment fell back to 7.7 per cent the following year and a new low of 6.7 per cent during 2010-11. The subsequent two years saw the share rise to 7.5 per cent and 7.7 per cent, which was again due to overall subdued investment.

By the way, farm sector investment had risen 18 per cent during 2011-12, but the feat had come after a decline in the preceding year. In short, starved of capital investment, the farm sector on which around three-fifths of population depends for livelihood is still monsoon driven in the country.

We had to take GCF (GFCF plus inventory increase) as capital investment here as GCFC data is not available by sector. Thus measured, GCF declined during 2013-14, which followed the slide in the growth rate from 6.4 per cent in 2011-12 to 2.3 per cent in the following year.

The industrial sector comprising mining, manufacturing, construction and electricity, too, suffered gradual erosion in the share from a high of 57 per cent in 1996-97 and 1997-98 to a low of 36 per cent in the low investment year of 2001-02, though subsequently the share increased to 43 per cent average in 2002-03 and 2003-04, 48 per cent average during 2004-05 and 2005-06 and a high of 54 per cent during 2007-08.

The following recession-hit year 2008-09, however, saw the share drop back to 43 per cent with a partial recovery to 50 per cent by 2010-11. Fiscal 2011-12 has seen the share fall to 44 per cent and fiscal 2013 to over two-decade low of 39.8 per cent. Fiscal 2014 is likely to see the share fall further. The drop in the share in industry was largely due to 13 per cent decline in investment in manufacturing during the year. The share of manufacturing in industry investment declined from 70 per cent to 60 per cent between 2004-05 and 2012-13; whereas the share of electricity. Gas and water supply increased from 11 per cent to 19 per cent during this period. Construction accounted for around 11 per cent of GCF in 2012-13.

Services, which gained enormously in incomes, found its composite share in investment go down from 53 per cent in 2001-02 to around 39 per cent by 2007-08, though the subsequent year saw the share rise to 49 per cent more due to subdued industrial investment. The share of services sector investment in total GCF worked out to 48 per cent in 2011-12 and crossed the 50 per cent mark for the first time to scale to 53 per cent in 2012-13 due to 25 per cent shoot-up in investment under public administration and defence. The share of services in GCF could rise further in fiscal 2014.