According to Nomura, the PMI, which fell to 50.1 in July from 50.3 in June suggest that, even as India's domestic demand remains weak, price pressures are rising
India's manufacturing PMI fell to 50.1 in July from 50.3 in June, due to a continued contraction in output and new orders. Overall, the PMI data suggest that, even as domestic demand remains weak, price pressures are rising and besides external sector stress, this is another reason for the Reserve Bank of India (RBI) to remain cautious, says Nomura Financial Advisory and Securities (India) Pvt Ltd.
The manufacturing PMI fell to 50.1 in July from 50.3 in June, its lowest level since April 2009 and just above the contraction/ expansion threshold of 50. The decline was due to continued weakness in the output and the new orders sub-indices.
Both domestic and external demand weakened in July. The new orders sub-index fell to 49.5 in July from 49.7 in June, reflecting weak domestic demand, while the new export orders index fell to 52.4 from 54.4. Sectoral data suggest the decline in new orders was mainly in the intermediate and investment goods sectors.
Output contracts, inventory lowered:
The output sub-index remained below the 50 threshold for the third straight month even as it rose to 49.8 from 49.1, which indicates that weak demand, increased competition and persistent supply-side pressures are forcing manufacturers to cut production. The new orders/inventory ratio reversed after seven straight months of decline and rose marginally to 0.99 from 0.97, as manufacturers lowered inventories - the finished goods inventory sub-index fell to 50.1 from 51.0.
Price pressures resurface:
The input price sub-index surged to 60.6 from 55.9, reflecting higher imported price pressures due to a weak rupee. More importantly, the output price sub-index, which has a lagged correlation with core WPI inflation, rose to 53.4 from 50.9, as firms attempted to pass on higher costs, albeit at a slower pace, which suggests margins are under pressure.
Nomura said, "We are negative on India’s economic outlook due to continued external sector pressures, tighter liquidity conditions, weak growth and political risks ahead of elections. In our baseline scenario (70% likelihood), we expect repo rates to remain on hold this fiscal year and GDP growth at a below-consensus 5.0% y-o-y in FY14 (year-end March 2014), the same as in FY13."
The government’s continued fiscal indiscipline, before the election, is worrying and Nomura expects the fiscal deficit to rise to 5.1%, which would mean that the government is likely to overshoot its estimated target of 4.8%
Nomura has sounded warning bells about India’s fiscal deficit, which is likely to worsen, if adequate steps are not taken by the government to contain expenditure and boost revenues. It expects fiscal deficit to touch 5.1% as against the government budgeted estimate of 4.8%. It said in its report, “Fiscal pressures are building. The government is focussed on increasing tax compliance, but growth is very weak, asset sales have had a slow start and rupee depreciation has increased the subsidy burden. Unless spending is cut (a strategy used in FY13, but would hurt growth and could backfire since this is a pre-election year), fiscal slippage is likely.”
The chart above illustrates how reckless the government has been on spending this fiscal. The black line shows a steep increase while the revenues have plummeted. The gap between the two is inevitable and this could worsen if the trend is not reverse (i.e. if government does not cut spending).
With the elections coming up next year, it is unlikely that the government will cut expenditure. It has shown to adopt a pro-poor stance and populist measures are more likely. “This was due to both lower revenues and higher spending than budget targets. During Q1 FY14, receipts (revenue and non-debt capital) contracted by 1.4% y-o-y (budget target: 22.1% y-o-y), while spending rose 22.7% (18.2%). This was partly due to higher tax refunds and a spillover of spending from last fiscal year,” observes Nomura. This was evident when the Cabinet passed the controversial Food Security Bill, which is expected to put a dent in the country’s finances over the long term.
According to Nomura, fiscal deficit in Q1 FY14 was 48.4% of the full year target; this is substantially higher than last year (37%) and the five-year average of 27%. This figure has shown how rapidly the government has already spent for the fiscal year 2014.