GNPL ratio for banks to remain high in FY21/22
India's medium-term potential growth likely to trend lower to 5.75-6.25%
We estimate India's potential growth to have slowed to 6% (from 7.1% YoY estimated in 2017) due to longer-than-expected disruption caused by the pandemic, balance sheet concerns faced by economic agents (especially the financial sector and households) and only a modest policy response so far. This implies difficult economic challenges for many years to come. For example, near-term challenges (households face reduced income levels and corporate sector bottom lines are hit) will likely inflict longer-lasting damage to household consumption and fixed investment, which represent 60% and 27% of GDP, respectively. Renewed asset quality concerns are already prompting banks and NBFCs to become more risk-averse. The government could also face debt sustainability concerns if the depth and the duration of the crisis worsen.
Can India still achieve 7%+ growth over the next 3-5 years?
Decomposing India's growth into inputs of production and total factor productivity (TFP), we believe rising rates of investments and productivity are key for higher sustainable growth. The policy bias will need to change from repair to growth. Unlike earlier near-term growth disruptive reforms (GST, anti corruption agenda, banking system clean-up), the focus needs to be on reforms that are growth-supportive (for instance, recent corporate tax rate cut). Our analysis suggests that in an upside scenario if India integrates into global supply chains along with productivity-enhancing structural reforms, it could return to potential growth of 7%+ through a combination of higher investment growth (12% YoY) and TFP (4%). A likely downside scenario (policy mis-steps and weak global growth), associated with low TFP (2.5%) and sluggish investment growth (4%YoY), could take growth to 4.5-5.0%.
Focus on gaining share in global supply chain shifts & doubling of FDI inflows
UBS Evidence Lab CFO Surveys suggest high and increased intention of moving away from China by export-oriented companies. 60% in the China CFO, 85% in the North Asia survey and 86% in the US CFO survey said they had moved or plan to move part of their production (average 30%) out of China. These surveys point to early evidence that India is emerging as one of the favoured destinations as companies look to relocate from China. To optimize this golden opportunity, the government needs to announce a credible fiscal stimulus immediately to reduce the near-term downside risks to growth. The focus needs to be on integrating India into the global supply chain. Separately, FDI inflows to India rose to a record US56bn in FY20 and the government estimates FDI pipeline to have jumped to US$162bn currently. We estimate FDI inflows could increase to cUS$70bn by FY23. The transfer of technical and organisational knowledge that accompanies these flows should help boost productivity and support growth.
How much growth does India really need? Demographic dividend; need jobs
India has the best demographic among peers. The biggest challenge is its ability to create ample employment opportunities for the rising working-age population. Of the incremental 12m rise in India's working-age population every year, 5m workers enter the labour force, though less than half find a job. Over 45% of the workforce now is employed (unproductively) in agriculture and may therefore also be in need of more productive jobs. The economic consequence entails stagnant disposable income amidst potentially weaker job creation trends (quantity, quality or both). We believe India needs to grow by at least 8% YoY annually just to absorb incremental labour force with a focus on mobilisation of resources towards manufacturing, exports and capex. Our upside case does not build in an end of unemployment or even underemployment in India, though we do assume the situation becomes better.