2Q11 GDP prints at 7.7% allaying fears of a sharp slowdown::JPMorgan

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2Q11 GDP prints at 7.7% allaying fears of a sharp slowdown

2Q11 GDP prints 7.7%oya in line with expectations On the production side, services grew strongly partially offsetting the moderation in industrial growth On the expenditure side, consumption slowed but investment growth picked up Activity is likely to slow further in the coming quarters as the full impact of the policy tightening and a slower global economy take hold But given still uncomfortably high inflation the RBI is likely to raise rates at its September review 2Q11 GDP prints in line with expectations 2Q11 GDP (1Q of the fiscal year 2011-12) printed at 7.7% oya in line with our expectations and just slightly higher than that of consensus (7.6%), allaying fears in some quarters that economic activity had slowed sharply during the quarter. As we have repeatedly pointed out, while activity is slowing, it is not slowing as sharply as some had feared.   In 1Q11 GDP growth had printed 7.8% oya, but comparisons across quarters are not particularly valid as the authorities have revised the 2Q11 GDP data to reflect the new IIP series (base 2004-5) but have not released revised data for the earlier quarters. It is likely that when the rest of the data is revised, growth in the previous quarters could well turn out to be higher suggesting that the momentum in 2Q11 may have moderated more sharply than the year-ago comparison indicates.     Services drive growth on the production side   GDP growth, on the production side, continued to be driven by services which printed at 10% oya, despite a high base from the previous year. Specifically, trade, transport and communications services which have exhibited buoyant growth over the last few quarters continued to remain strong, printing at 12.8% oya. Financial and business services also continued to display buoyant growth printing at 9.1% oya. Community and social services (a proxy for government spending) expectedly printed lower at 5.6% oya reflecting the fiscal consolidation.   In contrast to buoyant services growth, industrial growth slowed to 5.1% oya, primarily on account of construction. Manufacturing growth printed at 7.2% oya, broadly in line with IP growth, but construction growth plunged to 1.2% oya, suggesting that the rate hikes have begun to bite significantly in this sector. Growth in mining continued to languish (1.7 % oya) plagued by governance and regulatory issues.       Consumption moderates, but investment rebounds   On the expenditure side, private consumption growth moderated to 6.3% oya from 9.5% in the corresponding quarter the previous year, suggesting both (i) that sustained elevated inflation levels have eroded purchasing power, and (ii) successive rate hikes have begun to have some effect on durables. However, we do not expect consumption to slow much further from these levels. With inflation likely to peak in the coming months, it is expected to progressively serve as less of a drag on consumption. Furthermore, with a broadly normal monsoon, NREGA wages indexed, and minimum support prices increased, rural consumption is expected to remain buoyant. Government consumption printed 2.1 % oya, reflecting the fact that fiscal policy is programmed to be tight this year and, in contrast to private consumption, will become increasingly a drag on growth.   In contrast to consumption, gross and fixed investment surprised sharply on the upside, printing at 9.1 % and 7.6 % oya respectively. In recent months, some high-frequency indicators (non-oil imports, capital goods within IIP) have pointed to an uptick in investment, in response to increasingly binding capacity constraints, and today’s numbers reinforce that.   Finally, gross export growth continued to remain buoyant (24.3 % oya) reflecting India’s geographical and product diversification that have largely insulated it from the slowdown in developed markets. However, import growth also rose sharply over the last quarter (23.6%oya), reflecting the pick-up in investment as well as a shift towards foreign sources given the high domestic inflation. As a result, the contribution of net exports to growth was lower than in previous quarters.     Growth likely to slow further but RBI to stay on course in September   We expect growth to decelerate in the coming quarters. With the full impact of the fiscal tightening and past rate hikes yet to be felt, more hikes in the pipeline, and export growth unlikely to sustain at these sizzling levels, we expect activity to slow in the coming quarters. That said, headline and core inflation continue to remain significantly above policymakers’ comfort zone and there is evidence that producers still retain pricing power. As such, we expect the RBI to continue tightening with a 25 bps rate hike in September.