Core sector just about gets back to pre-COVID levels in Sep-20

The good news is that Sep-20 marks the least contraction among these 9 months, and that in itself is an attenuating factor.

Nov 02, 2020 11:11 IST India Infoline News Service

The month of September marked the seventh consecutive month of negative IIP growth. However, at just (-0.8%), this is the closest India’s infrastructure sector has come to recouping pre-COVID levels. Between the months of June and August 2020, the core sector struggled about 8-10% short of pre-COVID levels. That jinx appears to have been broken in Sep-20. The bad news is that out of the last 13 months, the core sector has contracted in 9 out of these 13 months. The good news is that Sep-20 marks the least contraction among these 9 months, and that in itself is an attenuating factor.

Data Source: DPIIT (Department for Promotion of Industry and Internal Trade)

There have also been a series of upgrades in previous month’score sector growth. The data for August has been upgraded to (-7.3%) while the data for June has also been bettered to (-12.4%). That gives hope that the actual contraction in Sep-20 may be lesser than the currently stated (-0.8%).

From a business point of view, the core sector is extremely critical as it comprises 40.27% of the IIP, and therefore is an important high-frequency indicator for GDP growth. With the government ending the debate over “interest on interest” by footing the bill, it should hopefully pave the way for improved credit. That should be conducive for core sector growth in the coming months as there is better traction coming from bank lending coupled with lower interest yields.

The Eight-sector story: It is getting better and better

The core sector growth has always been the story of the 8 infrastructuresegments that constitute the core sector. It is surely getting better and better each month. For example, in the months of April and May, all the 8 core sectors showed negative growth. This improved with 1 sector growing positively in June and July. In Aug-20, we had 2 sectors showing positive growth. In September, that has improved to 3 sectors with a fantastic bounce shown by the coal sector. That is evident in the graph below.

Data Source: DPIIT

How the Eight core sectors panned out in Sep-20

• Coal Sector (weight 10.33%) output saw +21.2% growth in Sep-20. With power sector demand building up and Coal India back in full production capacity, coal sector just built on the strengths of the previous month’s positive growth.

• Crude Oil (weight 8.98%) extraction fell (-6.0%)in Sep-20. Growth continues to be tepid due to weak crude oil prices. In fact, crude prices are driving the performance in 3 out of the 8 sectors in the core sector index.

• Natural Gas (weight 6.88%) production fell by (-10.6%)and is still looking very weak. The cuts in natural gas production deepened in September and the sharp cut in gas prices offered is likely to keep this sector under pressure.

• Refinery Products (weight 28.04%) fell by (-9.5%) but is improving compared to Aug-20. Refineries have seen slow improvement in demand and they have been constrained by weak gross refining margins (GRMs) in the Singapore benchmark.

• Fertilizers (weight 2.63%);surprisingly declined by (-0.3%) after a few months of consistent positive growth. But that is more a cyclical phenomenon as post the Kharif season; the fertilizer output does see a cyclical downturn before the Rabi demand.
• Steel (weight 17.92%) saw a +0.9% growth in Sep-20. The improved demand from China and Vietnam as well as the traction from domestic demand is finally showing up in steel sector output. Steel matters as it has strong externalities.

• Cement (weight 5.37%) output was also weak falling by (-3.5%)in Sep-20. This is a sharp improvement over the previous months when the decline was typically in double digits. There is demand visibility from residential, business and infrastructure pockets.

• Electricity (weight 19.85%) generation increased by +3.7% reversing the past trend. This sector benefited from a resumption of businesses and factories and steady coal supply also helped thermal supply get back on track.

Core sector needs a boost from crude prices

If there is one factor that stands between the core sector and a full revival, it is crude oil prices. An improvement in crude prices will positively impact the oil extraction, refining and the natural gas sectors. These 3 sectors account for over 45% of the core sector and could also have significant downstream impact. The hydrocarbon segment of the core sector is nearly half in weight and that needs to pick up for core sector to turn positive. So, how does cumulative core sector look like now?

Year 2012-13 2013-14 2014-15 2015-16
Core Sector Growth (%) 3.8% 2.6% 4.9% 3.0%
Year 2016-17 2017-18 2018-19 2019-20
Core Sector Growth (%) 4.8% 4.3% 4.4% 0.4%
Year Apr-Sep FY21
Core Sector Growth (%) -14.9%

It does look like negative core sector growth in FY21 is inevitable. With the core sector down (-14.9%) after 6 months, positive recovery looks like a remote possibility. The bigger test will be how far the Indian economy can avert the damage of weak core sector in the months ahead. It is here that a stimulus can be a big helping hand.

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