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India Economy: Data Release; Weakness persists - Expect a back-ended recovery from H2FY20

1) Weakness in Q2FY20 GDP growth with 4.5% yoy growth, 2) contraction in core industries output in Oct-19 at the rate of -5.8%yoy and 3) weak tax collection stats for first 7 months of the year (FYTD20 gross tax collection up 1%yoy) - continue to corroborate the ongoing weakness in the economy. The government and RBI have been taking series of supportive measures to tackle the slowdown with – a) cumulative repo rate cut of 135bp since Feb-19, b) corporate tax rate cut, c) liquidity support to stuck real estate projects, d) variety of other sector specific support measures like for NBFCs, Telecom etc. We also believe that ongoing government expenditure support will be a key factor in the recovery and thus in light of weak collections, fiscal slippage looks likely. Though the extent of slippage will be determined by how disinvestment and other non-tax measures for revenue pan out. Hence, we expect fiscal deficit to settle at 3.8% of FY20E GDP, in case a major strategic disinvestment doesn’t go through. Else we expect it to settle at 3.5%, instead of 3.3% of GDP budgeted. Consequently, we expect 10 year yields to be sticky with a steepening bias in G-sec yield curve. Also, for most of these measures, real impact is expected to take shape with a lag, hence we pencil in a back-ended recovery H2FY20 onwards. We expect FY20 real GDP growth to settle in at 5.2% yoy.

Summary of recent data releases:

• GDP growth hits another bottom; Improvement in private consumption encouraging while overall industry growth drags: Q2FY20 GDP growth came in at a 6 and a half year low at 4.5%yoy, in line with consensus expectations though. Pick up in private consumption expenditure at 5%yoy against 3%yoy growth last quarter, despite a strengthening base, is certainly a positive. This partly found support from increase in government expenditure, which led to a 16%yoy growth in government final consumption expenditure. Gross fixed capital formation remained feeble though, with 1%yoy growth. On the value added side, the biggest drag came from industry, which grew a mere 0.5%yoy, with 1%yoy decline in manufacturing.

With ongoing monetary stimulus (repo rate cut by 135bp already), expected sustained strength in government expenditure to support economy, other support measure like corporate tax rate cut, real estate AIF and liquidity support, expectation of positive rub off effect of US China trade resolution on global growth, we expect economy to chart a back ended recovery from H2FY20 onwards.

• Central government utilizes entire fiscal deficit for the year as it continues to maintain expenditure amidst weak collections: FYTD20, the central government has utilized 102% of its budgeted fiscal deficit, led by sustained expenditure, despite weak collections. On the expenditure side, FYTD20 (till Oct-19), government expenditure is up 14%yoy, with similar growth in capital as well as revenue expenditure. In terms of tax collection, indirect tax collection is down 1%yoy (owing to weak GST collection) and direct tax collection is up a moderate 4%yoy, FYTD20.

Though current fiscal deficit utilization pattern is in line in with last year, but earlier than that, utilization typically stood at 80-90% by Oct, every year. With similar utilization pattern, the government went for significant expenditure cuts in Q4 last year, which was one of the contributing factors for current slowdown. Given an already weak economic backdrop, this situation becomes sticky as any cut in government expenditure may lead to prolonging economic pain. Hence, we believe that government will not cut expenditure in H2FY20 and consequently, a fiscal slippage looks likely this year and corpus of that will depend on how disinvestment program will pan out.

·      Led by weak economic backdrop and unseasonal rain in October, Core-industries output continues to be dismal: Oct-19 Headline core-industries’ index declined 5.8%yoy, worst decline since series got rebased in 2011-12. This is the third consecutive month where the series saw a decline on yoy basis and the decline came in on a moderate base of 4.7%yoy growth in Oct-18. The contraction in output is led by weak economic backdrop, unseasonal and heavier than usual rain in Oct (overall rainfall in Oct was 44% above normal). Barring fertilisers none of the components are exhibiting any strength either in Oct-19 or on a moving average basis. Refinery products was flat at best. Coal and electricity output was down 17%yoy and 12%yoy respectively