Premature Euphoria!

The increased pace of the industrial growth has given the Central Government a cause to cheer. The index of industrial production, a key measure of the country’s industrial growth advanced 9.8 per cent for the month of October in 2015. This index has remained low most part of the year.

Yet the euphoria of the IIP growth, drummed up by mainstream and financial media, may be a little premature. This is because the index for the month of October had an element of seasonality to it. The seasonality is on account of the annual festival bonus pay-outs made to Government and industrial workers both in the public and private sectors across the country. These pay-outs in turn translate to purchases of consumer goods, both durable (for example, white goods) and the non-durables (textiles and gifts). Not surprisingly, therefore, the growth consumer goods was 18.4 per cent in October. Consumer durables alone grew by 43 per cent.

The second factor is that there is what is referred to as a base effect. Base effect essentially implied that 2014 was a period of negative growth. Consequently, if the base is low the growth in the subsequent period appears high. In October of 2014, the industrial index actually contracted by three per cent. Therefore, the growth for October 15 appeared high.

But, the reality is that major sectors of the industry have not seen any significant growth. For instance electricity production, actually, decelerated to nine per cent in October and to five per cent for the first seven months of the financial year beginning April 2015. Corresponding period growth was 13.7 per cent and 10.2 per cent. Growth in the mining sector has for the same period has remained flat this year.

The entire growth was supported by only the manufacturing sector that is reflected in the consumer goods. Manufacturing sector grew 10.6 per cent in October and 5.1 per cent for the first seven months of 2015. For the corresponding period of 2014 the manufacturing sector contracting 5.6 per cent and grew only one per cent between April-October of 2014. Clearly, this substantiates the base effect syndrome. The base effect also reflected in the capital goods (machinery and equipment used in production) and in intermediate goods (semi-finished goods and components used in making final goods). Both these goods grew 16 per cent and 6.7 per cent in October.

However the growth is clearly appears misleading. A building up large inventories of manufactured goods has buttressed the growth.

One pointer in that direction is the whole sale price index. Core inflation, which is essentially net of both food and energy, was in the negative at 0.1 per cent in November and minus 0.4 per cent in October. What it means is that prices of manufactured goods are not rising, instead falling. Fall in prices of manufactured goods indicate that producers were offering discounts to get rid of inventories to save on warehousing rental and working capital costs.

That is already evident from the fact that almost all the manufacturers of automobiles, mobile phones, white goods – refrigerators, washing machines and kitchen equipment are offering discounts on prices. For instance, each of the vehicle manufacturers are offering discounts on purchases, loading freebies or first year insurances and some even offering partial motor vehicle tax payments, for moving the goods out of stock yards to dealers and then customers.

Whether the goods are finally moved out of the stock yards and have actually landed into consumers hands is a different matter. That should show up only in the figures when they are released in November and December. Only after that the markets will react.

Nomura Investment Research’s economist SonalVarma has already forecast a correction in the coming months. She says, “November IP growth is likely to decelerate sharply owing to the Diwali holidays; hence, average IP growth in Oct-Nov should reflect the true picture.”

The weakness in industrial activity also showed up in the consumer price index, where transport and communication equipment that include both automobiles, television sets, computers and mobile phones, products that are usually picked up post bonus pay-outs. If there was a demand for these products prices should have actually increased.

Yet the actual increase was less than 1 per cent in all these goods. Almost all these goods already have high import content. This translated into costs due to currency depreciation. Between October 2014 and October 2015, exchange rates have depreciated by close to 7 per cent. That essentially meant that difference in costs were being absorbed by the producers themselves. Clearly it implied that producers were mostly absorbing the exchange rate depreciation costs directly on to their balance sheets instead of passing it on to consumers.This is normally done, to ensure that goods leave the ware houses to eliminate consumer resistance from high prices.

Bits and parts of the true picture of weakening industrial activity are already becoming evident. Exports are falling. Between April and November exports contracted 19 per cent or $ 40 billion less than the corresponding period of last year. Obviously the recession in Europe and demand compression in North American markets was beginning to have an impact on India. Rating agency Crisil’s report on export performance said, “Export destinations are not doing well and prices of many exports have fallen.”


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