Do the IIP and trade numbers point towards a slowdown?

The CSO recently announced the Index of Industrial Production (IIP) for the month of November 2016 while the Ministry of Commerce announce the trade data for the month of December 2016. Ironically, while the trade data did show some signs of the economic slowdown caused by the demonetization in the form of pressure on service exports, the IIP actually showed a smart recovery for the month of November. Here are the key takeaways…

Key takeaways from the IIP and trade data…

  • For the month of November 2016, the IIP growth showed a sharp recovery from negative territory to a healthy 5.7%. This is all the more gratifying considering that that rate of IIP growth was expected to fall sharply due to the cash crunch caused by the demonetization drive of the government of India.
  • The question is; how did the IIP show a rapid growth despite the PMI-Manufacturing coming under constant pressure over the last 2 months? One answer could be that impact of the base effect which could have artificially inflated the IIP number for the month of November. This kind of a base effect is normally not sustainable and a clearer picture should emerge next month.
  • The IIP showed steady growth in all its 3 key components viz. mining, manufacturing and electricity. While mining grew by 3.9%, manufacturing grew by 5.5% and electricity grew at a very healthy rate of 8.9%. Since manufacturing has the highest weightage in the overall IIP index, it tends to influence the IIP the most.
  • Out of the 22 industries that are covered under the IIP banner, 16 industries showed a positive growth while the remaining 6 sectors showed a negative growth. In terms of specific industry groupings, electricity, rubber cables, passenger cars and tractors showed strong positive growth.
  • The big take-away from the IIP numbers is that after a very long time, the user based classification of IIP showed a sharp growth in the capital goods segment. Of course, 1 month may be too short a period, but if this trend sustains then it could hint at the revival of the capital goods cycle in India, with positive implications for capital goods companies.
  • How will the IIP number influence the RBI stand on repo rates? In the October 2016 MPC, the RBI had cut rates to spur growth in the economy. But demonetization has led to most banks cutting MCLR by 70-90 basis points. That means the entire repo rate cuts since January 2015 have already resulted in 100% transmission. The RBI may, therefore, choose to wait and watch the impact before indulging in further rate cuts at this point of time.
  • On the trade front, the trade deficit showed a slight improvement over the month of November. The improvement in trade deficit could be largely attributed to a sharp growth in exports which was helped by a weak INR. Oil exports saw a smart spurt during the month and got a boost from higher oil prices as well as a favourable rupee level.
  • Imports for the month of December were almost flat and that could be largely attributed to weak gold imports. Gold imports were a principal contributor to the higher trade deficit in November and that has reversed in December. However, the danger signals could be coming from the oil front where the import bill is higher by 15% largely due to higher crude prices. That could be a fairly large upside risk for the trade deficit.
  • The services trade data for the month of November was quite disappointing. While service imports have grown at 8.7%, service exports have grown at just 1.7%. This could be attributed to the ban on cash transactions in the aftermath of demonetization. But the bottom-line is that India may have lost the massive edge they had wherein services surplus used to compensate for the merchandise trade deficit. Currently, the services trade surplus just about covers 50% of the trade deficit leaving a net deficit of over $5 billion for the month of December.

In a nutshell, the data on IIP has been encouraging while the trade data does leave some open questions. The bigger worry is that the volume of India’s trade has contracted substantially compared to 2012. While the forex chest is still sufficient to cover 13 months of exports, the equation could change quite drastically either if gold imports start picking up or if the price of crude oil moves up. That could be the point to ponder for the government of India!

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