The Indian economy saw a sordid H1FY25 with Q2 GDP chiming in below estimates
The Q2 GDP slowdown stems from four key factors: monsoon disruptions hitting industry (industry GVA at a 7-quarter low of 3.6% y/y), subdued government spending stalling capex, weakening urban demand curbing consumption, and lending slowdown due to RBI norms. While high-frequency indicators showed improvement in Oct-Nov'24, with gains in auto sales and fuel consumption, sustained recovery hinges on continuing momentum in the services sector, a strong rabi crop, and pick up in government expenditure. We project growth to be better in H2 with FY25 real GDP growth expected at ~6.6% y/y. External volatility remains a risk, and we expect its major impact to pan out in FY26.
Capex story might gain momentum due to higher government spending for remainder of FY25
Q2 GFCF growth slowed to 5.4% y/y, its weakest since Q4FY23, reflecting soft investment momentum. Government spending, which forms 28% of GDP, also faltered: Union capex for 7MFY25 fell 15% y/y, with States mirroring the slump. On the revenue side, both Union and State spending improved. Given buoyant revenue position and higher State borrowings, significant revival is expected in both revenue and capital expenditure, and they will be closer to FY25BE.
Minimal probability of Repo rate cut in Dec'24 policy as inflation and exchange rate concerns dominate
Despite growth undershooting projections, the RBI is likely to hold the repo rate steady in the Dec'24 policy, prioritising inflation control and external stability. With CPI back above 6% y/y and the INR hitting record lows amid USD showing strength, liquidity pressures have mounted. The sharp decline in forex reserves and volatile FII flows will likely lead the RBI to a wait-and-watch approach towards US Fed policy actions, while aiming to maintain a reasonable interest rate differential. Recent rupee outflows led to a liquidity deficit in late Nov'24, leading to multiple VRR auctions, raising expectations of a CRR cut in Dec'24 policy
Global geopolitics remains a key variable with a tariff war brewing
The US President-Elect's comments on tariffs and de-dollarization have sparked debate, but market volatility has remained subdued. However, a few emerging market currencies are already feeling the heat. Even as the US faces risks from imported inflation, and China is ramping up stimulus, market stability is expected to hold for now. We anticipate volatility will pick up once the Mr. Trump takes office in Jan'25 and his policies begin to unravel
A stronger H2 may be on the horizon though continued vigilance is necessary. RBI faces constraints on cuts due to persistent inflation and exchange rate pressures. As growth slows, expectations for a Feb'25 rate cut have realigned, with ample liquidity expected in the interim. 10Y Union G-sec Yield is likely to remain in the 6.5%-7.0% range, influenced by global factors. We believe the RBI and Union have sufficient tools to stabilise the economy, especially in FY26 when the risks are likely to peak. |
