The recent U.S. State Department pronouncement that India’s much touted growth rate >may be overstated has reignited debate over the veracity of official measures of the country’s growth. For many of us, this is flogging a dead horse. For the past two years, every quarter’s GDP report based on the new methodology has been met with the same scepticism — that is, that there is little corroborating evidence from other data sources that the growth rate is anywhere near the official statistics. The scepticism has been voiced by government and market economists, academics, and the regulators. But with no real attempt by the statistical authorities to bridge this credibility gap, many of us have learnt to live in two parallel worlds, ironically both based on official data: an India described by the traditional indicators of activity, such as industrial production, imports, auto sales, order books, freight, corporate earnings, and bank credit all compiled by various Ministries and regulators; and another India described by the national account statistics complied by the Central Statistical Office (CSO).
A tale of two series Before the shift to the new methodology, there was an accepted narrative based on the old series that tells a story of India where growth averaged 8 per cent over FY 2006-13 before plunging to 4.7 per cent in FY 2014 — the year of reckoning — when persistent high inflation and current account deficit driven by loose monetary and fiscal policies pushed India to the brink of a crisis. The new GDP series begins in FY 2013 and for FY 2014 records a growth rate of 6.7 per cent, two percentage points higher than in the old series. Subsequently, growth continued to rise to reach 7.6 per cent in FY 2016, hitting nearly 8 per cent in the quarter that ended this March. In this story, there was no dramatic fallout from the much-maligned macroeconomic policies and dysfunctional decision-making over FY 2012-13. Instead, the FY 2014 crisis was just an overreaction by foreign investors and India is nearly back on its high growth path.
But we have all seen what economic growth of 8 per cent feels like in the past and whatever is happening now isn’t anything like it. Feelings aside, none of the other official data — industrial production, imports, auto sales, order books, freight, corporate earnings, or bank credit — show any resemblance to an economy surging at 8 per cent.
Consider the curious case of industrial production data published by the Ministry of Statistics. Over the period FY 2006-13, industrial production grew at an average of 7.1 per cent, plummeting to - 0.1. per cent in FY 2014, the crisis year. Since then it has recovered to 2.4 per cent in FY 2016, suggesting that things have improved modestly.
The CSO also calculates manufacturing output to estimate overall GDP growth. Under the new series, manufacturing growth in FY 2014 was estimated at 5.7 per cent rising to a whopping 9.3 per cent in FY 2016! If this is a true reflection of India’s manufacturing growth, then one should seriously question the management of our listed companies as their sales and earnings have languished since FY 2014.
The CSO growth numbers should also raise serious misgivings about how the government and the Reserve Bank (RBI) are treating Indian banks. Over FY 2006-14, when manufacturing (under the old series) grew at an average of 7.4 per cent, real bank credit to industries (based on data published by the RBI and deflated by wholesale price inflation provided by the Ministry of Commerce) expanded at 16 per cent average. So for every 1 per cent increase in credit, manufacturing grew roughly 0.5 per cent. Since then, credit growth has fallen to only 6.7 per cent over FY 2014-16. This is now widely cited by policymakers and the market as the key risk to the economy with surging bad loans and declining bank capital quickly becoming binding constraints to growth.
But wait a minute — over FY 2014-16, manufacturing growth averaged 6.8 per cent, so every 1 per cent increase in credit produced 1 per cent manufacturing growth! That’s a doubling of banking efficiency! Shouldn’t the government and the regulator congratulate banks for achieving this remarkable feat despite being weighed down by bad loans and shackled by falling capital instead of planning to restructure them?
One can go on with innumerable such disconnections and inexplicable statistical methods used to arrive at these numbers, but it would be unfair not to discuss the parallel narrative. It goes something like this. The new methodology is based on the annual survey of companies registered with the Ministry of Corporate Affairs (MCA). This survey covers half a million firms, much larger than the world of listed companies and that of the big firms used in estimating, for example, industrial production. Consequently, many of the firms are small and medium-scale enterprises (SMEs), which previously were not directly surveyed. Therefore, the new estimate of manufacturing growth is more comprehensive and provides a truer picture of the economy. Based on this notion, the argument continues that much of the near double-digit manufacturing growth is now being delivered by SMEs and not by the big listed firms. So it is perfectly consistent to see listed corporates’ earnings and sales languishing while industrial growth is surging. In the same vein, as banks have traditionally not financed SMEs, it is also consistent for manufacturing growth to rise while credit to industries declines. To the extent that credit attributed to “consumers” is often diverted to SMEs, banks are financing industrial growth unknowingly through rising household loans.
Among the many problems with this alternative narrative, two stand out. First, if SME manufacturing is doing so well, why are people worried about employment growth? Second, it is nearly impossible to verify this story as the MCA database still seems to be a state secret! Instead, the data that are publicly available just don’t appear to corroborate the parallel growth narrative.
It’s not just about numbers All of this may look like petty squabbling over a bunch of numbers. And I really don’t think foreigners hang their investment decisions on the U.S. State Department’s view on India’s growth. Eventually, we all wake up to reality. But policies based on the wrong reading of reality almost always end in tears. In a world flush with liquidity and global interest rates near zero, it is unlikely that the awakening will be caused by financial markets, as was the case in 2013. But every society has a tolerance floor for growth and tolerance ceiling for macroeconomic instability. Whenever this floor or ceiling is breached, the political economy reacts badly. Just look around the world.
Jahangir Aziz is head of Emerging Market Economics, J.P. Morgan. The views are personal.