Q3 GDP Estimates Surprise the Street on the Upside

The Q3 estimates for GDP were, probably, the most awaited statistics in the last few months. That is hardly surprising! The Q3 GDP growth refers to the Oct-Dec 2016 period when the Indian economy had to put up with the pain of the demonetization exercise. Demonetization had created a liquidity crunch across most urban and rural centres. Customer-facing sectors like automobiles, FMCG, consumer durables and retail financing were the worst hit. In fact, rating agencies had already painted a bleak picture of Q3 GDP growth at around the 6% mark while SBI Research had pegged the Q3 GDP as low as 5.8%. The Q3 GDP estimates also coincided with the second revised estimate of full year GDP after considering the impact of demonetization. This is likely to be more realistic and reflective of the actual position compare to the previous estimates.

Q3 GDP at 7% was a pleasant positive surprise…

The Q3 GDP estimates announced by the MOSPI on 28th February came in much better than expected at 7%. There were already indications in the macro and micro numbers that the negative effect of demonetization was not as bad as was originally made out to be. The real GDP estimate at 7% in Q3 is largely comparable to the previous two quarters. In Q1 and Q2, the GDP growth was at 7.2% and 7.4% respective. Thus, despite the impact of demonetization, the impact in Q3 was nowhere close to the bleak picture that was painted in the international and national media. What it could also imply is that the remonetization exercise that has gained momentum in Q4 could have a sharply positive impact on GDP in the fourth quarter. With the annualized GDP growth for the first 9 months at 7.1%, it leaves substantial room for the full-year GDP to get closer to the 7.3-7.4% range if the salutary effects of remonetization begin to manifest in the fourth quarter.

Advance estimates 2016-17: How Agriculture will stack up?

The big shift could happen in the area of agriculture. For the full fiscal year 2016-17, the agriculture growth is estimated at 4.4% compared to a mere 0.8% in the previous fiscal. While agriculture may have the smallest share in GDP, it has the highest share in employment and job creation. Therefore, its contribution to retail demand across rural and semi-urban India cannot be understated. The sharp spurt in agriculture growth is largely an outcome of a good monsoon after 2 consecutive years of draught. The food grain production for the current fiscal is likely to be 10-11% higher than last year. The big worry was on the Rabi crop front. The Rabi sowing typically happens around November and December. The fear was that demonetization would severely dent the prospects of the Rabi crop. However, that does not seem to be the case. Rabi output for full year 2016-17 is likely to grow at 6.3% compared to a growth of just 2% in the previous year. It can be argued that the actual Rabi crop could have been better without the demonetization drive, but what is clear is that the dent on Rabi output is nothing to really worry about.

Advance estimates 2016-17: How Manufacturing will stack up?

Full year advance estimates peg the growth in manufacturing at 7.7% compare to 10.6% in the previous year. The small and medium enterprises (SMEs) have borne the brunt of the slowdown in manufacturing. For example, the organized private sector which accounts for more than 70% of the overall manufacturing component showed a growth of 12.9% in the first 9-months period. If anything, the remonetization should only improve this number in the fourth quarter. The worst affected was the SME space where the growth is estimated to be negative at (-0.5%) for the first 9 months. The SME space has already been struggling from limited access to finance, weak demand, high costs and the demonetization drive only made liquidity tighter and life more difficult for these SMEs. While these SMEs account for 21% of overall manufacturing, they account for a chunk of the employment created by the manufacturing sector. The big challenge for the manufacturing sector is that there is still a capacity slack of nearly 30% in manufacturing and that has remained subdued due to weak demand.

Advance estimates 2016-17: How Services will stack up?

Services present a very diverse picture as far as contribution to GDP is concerned. With over 60% share in GDP, services continue to be the key driver of GDP. However, while some services have clearly lagged, many services that are driven by government spending have shown robust growth. On the other hand, services that are driven more by private consumption and a pick-up in private sector capital spending have lagged behind. Let us take the case of government spending driven services. Electricity, gas & utility services are estimated to grow at 6.6% for 2016-17 compared to just 5.1% in the previous year on the back of higher government spending and de-bottlenecking. Similarly, public administration and defence services are estimated to grow at 11.2% for the full year compared to just 6.9% in the previous year. This is once again a case of buoyancy in services that are driven by government spending.

The private consumption driven services present a slightly different picture. For the full year 2016-17, construction is likely to grow marginally better at 3.1% compared to 2.8% last year. Similarly, trade, hotels and transport services are projected to grow at just 7.3% compared to 10.7% last year. Financial services like insurance, real estate and professional services are likely to register a lower growth of just 6.5% for the full fiscal year compared to 10.8% last year. The moral of the services story seems to be that services driven by government spending are likely to outperform the services that are driven by private consumption.

To sum it up, the GDP estimate for Q3 is much better than anticipated. The impact of demonetization appears to be limited and it raises hopes that the remonetization effort could give a substantive boost to GDP growth for the full year and for the next financial year.