COVID-2.0 could put further pressure on IIP growth
As expected, it was manufacturing that again led IIP lower. The Indian manufacturing sector has been facing pressure from both sides. On the demand side, confidence levels continue to be low and there is an unwillingness to commit to higher spending or investments. There is also the issue of capacity utilization which continues to hover around 55-60%. That is resulting in low output and lower absorption of fixed costs.
The bigger challenge has been on the supply side. On one hand, there is the steady rise in price of inputs like metals, alloys, minerals and oil. This resulted in capacity utilization getting constrained. There is a micro problem where there is a global shortage of inputs like semiconductors, auto ancillaries and pharmaceutical APIs. These supply chain constraints have hit IIP growth in a big way.
3-factor analysis of the Feb-21 IIP numbers
Among the 3 components of IIP; mining disappointed in Feb-21 with -5.52% contraction. The key concern remains manufacturing, where contraction deepened from -1.31% in Jan-21 to -3.65% in Feb-21. Manufacturing has the most significant impact on overall IIP due to its 77.64% weight in the IIP basket. Electricity generation was a better performer in Feb-21 growing at +0.13%, but sharply lower than the growth of +5.53% in Jan-21. The challenge remains the manufacturing sector and the challenges of COVID-2.0. If the COVID situation worsens, then manufacturing segment becomes more vulnerable.
|Weight||Segment||Base||Index||IIP Growth (Feb)||IIP Growth (Jan)|
Data Source: MOSPI
For the first 11 months of fiscal 2021 (Apr-Feb) cumulative IIP stood at -11.3% yoy. This will be the real challenge if the government has to meet the RBI’s revised GDP estimates of -8% for FY21. With just one month to go, any serious recovery in the full year IIP looks unlikely. The action and the focus will now shift to effectiveness of the government inoculation program so that growth impulses can be maximized in FY22.
Leaders and laggards of the manufacturing pack
Here is a quick take on the gainers and losers in the manufacturing basket for Feb-21. Positive growth was visible in Computer Electronics (+21.1%), motor vehicles (+4.9%), transport equipment (+3.5%), electrical equipment (+3.2%) and miscellaneous manufacturing items (+2.1%).
A larger number of product categories saw contraction in output. These included, Recorded Media (-28.3%), furniture (-19.0%), Apparel (-14.2%), beverages (-13.1%), paper products (-10.3%), coke & petroleum products (-9.5%), tobacco products (-7.8%), leather (-7.6%), minerals (-7.0%) and wood products (-5.3%).
For the Apr-Feb period, the overall contraction in IIP was -11.3% cumulative. However, not a single segment showed positive growth in the 11-month period; with the best being pharma contracting at -1.0%.
How will the Feb-21 IIP number impact RBI rate stance?
The April monetary policy made it amply clear that repo rates would not be touched and the accommodative stance would not be modified till growth impulses got back to a sustainable high growth trajectory. It is evident that if the government wants to achieve 11-12% GDP growth in FY22, there is no viable option other than to maintain low rates and an accommodative monetary policy stance. However, if you read between the lines, the latest monetary policy has added an interesting caveat.
The caveat is that if inflation sustains consistently at a higher level, then the RBI may review its accommodative stance. The sharp spike in yields in India and the US show that bond markets are not willing to take the central bank’s word on inflation in toto. The subtle message from the RBI is that if inflation remains sticky above 6% for 3-4 months in succession, RBI may be constrained to shut the liquidity taps, if not hike rates. In short, while the MPC continues to harp on its growth focus, there is clearly a Plan-B that is in place in the event of a spurt in inflation. The expectation is that inflation is reined in and growth bounces back in FY22 so that Plan-B is not needed. That is what markets too are hoping for!