Perspectives

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19  
EcoPerspectives // 4t quarter 2018  
economic-research.bnpparibas.com  
India  
Rising pressures  
Pressures have been on the rise since April 2018. Narendra Modi’s power has eroded. His party lost ten seats in the lower house of  
parliament. Growing difficulties in the financial sector have sparked higher refinancing costs. Despite solid growth in the first quarter  
of fiscal 2018/2019, the rupee has fallen to the lowest level on record after depreciating by more than 13% against the USD. India is  
vulnerable to higher oil prices (23% of imports) and capital outflows. Although its external position has weakened, India is  
nonetheless in a much more comfortable position than it was five years ago. At the end of September, foreign exchange reserves still  
covered 1.4 times its short-term external financing needs (less than 1 year), compared with 0.9 times in 2013.  
Economic growth is still robust for the time being  
1- Growth and inflation  
India’s economic activity has rebounded strongly since fall 2017. In  
the first quarter of fiscal year (FY) 2018/2019, GDP grew 8.2% year-  
on-year (y-o-y). Household consumption and the dynamic services  
sector are still the main growth engines. Industry continues to make  
a smaller contribution to growth than services, but industrial activity  
was up 13.5% in fiscal Q1 FY2018/2019. Robust investment  
GDP Growth (%)  
Inflation (%)  
Forecast  
7.6  
Forecast  
8
.0  
7.4  
7.1  
6.7  
4.9  
4.8  
4
.5  
4.6  
(
+10% y-o-y) fuelled the production of capital goods.  
3.6  
17  
Growth prospects are still favourable but the risks are on the rise.  
Business confidence indicators are still in positive territory, although  
they slipped slightly in August. It is also worth noting the slowdown  
in activity in infrastructure and automobile sales. Economic activity  
could also be strained by rising inflationary pressures, the increase  
in customs duty, the rupee’s depreciation, monetary tightening  
15  
16  
17  
18  
19  
15  
16  
18  
19  
Source : National accounts, BNP Paribas  
(
+50bp since summer) and the liquidity squeeze.  
2- Real GDP growth acceleration  
Greater financial-sector risks  
 Real GDP (year-on-year)  Household consumption (pp)  
1
Public spending (pp)  Investment (pp)  Change in inventory (pp)  
Net exports (pp)  Statistical errors (pp)  
5
The rebound in lending has fuelled the acceleration in economic  
growth. Yet the supply of loans could be strained by the  
deterioration in the financial situation of banks (84% of domestic  
lending, excluding government loans) and non-bank financial  
institutions.  
1
0
5
0
5
At the end of March 2018, state-owned banks, which produce 55%  
of the loans granted by the banking and non-banking sector,  
reported major losses (roughly USD 9.6 bn). To consolidate their  
balance sheets, the government began injecting capital again as  
-
1
early as July 2018. The five most fragile banks received capital  
injections of INR 113 bn (USD 1.7 bn) of the INR 650 bn  
-10  
(
USD 11 bn) programmed by the end of March 2019. Even so, the  
2
013  
2014  
2015  
2016  
2017  
2018  
rating agencies do not believe the amount of capital injections will  
suffice to fuel renewed lending, even though they should enable the  
banks to meet the new capital adequacy ratios adopted at the end  
Source: CEIC, BNP Paribas  
2
of March 2019. For the private banks (22.5% of loans outstanding ),  
Non-bank financial companies, whose weight has increased  
significantly over the past five years, might have to sharply curtail  
their lending activity as well. At the end of March, they accounted for  
more than 16% of credit supply (about 13% of GDP). Infrastructure  
Leasing and Financial Services (IL&FS), a company specialising in  
the development of infrastructure and lending services, defaulted in  
mid-September, and the public authorities were forced to intervene  
to keep it from going bankrupt. This triggered strong upward  
pressures on the bond market and reduced the refinancing capacity  
of non-bank financial companies.  
the situation is nothing like that of the state-owned banks, even  
though it has deteriorate slightly over the past two years. The non-  
performing loan ratio increased by 1.3 points to 4.2% in March 2018.  
1
Allahabad Bank, Andhra Bank, Corporation Bank, Indian Overseas Bank  
and Punjab National Bank  
2
Rural and non-resident banks distribute 13% of lending.  
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20  
EcoPerspectives // 4t quarter 2018  
economic-research.bnpparibas.com  
At a time of higher liquidity needs (due to taxes payable at this time  
of the year), the squeeze on liquidity increased, although it was  
nothing like the levels that prevailed five years ago. The call money  
rate has increased by 60bp since January to 6.5% at the end of  
September (vs. 10.4% in September 2013). To limit these pressures,  
the central bank stepped up its asset purchasing programme.  
Nonetheless, it expects liquidity to remain under high pressure  
through March 2019.  
3
- Pressures on the rupee and foreign exchange reserves  
 INR vs USD (lhs) - - - Foreign reserves (USD bn)  
7
5
450  
70  
65  
400  
350  
300  
250  
200  
Greater pressures on public finances  
6
5
5
0
5
0
In the first five months of fiscal 2018/2019, the deficit hit 94.7% of its  
full-year target. Although this is not as bad as the budget overrun  
reported at the same period last year (96.1% of its full-year target,  
before revision), it will nonetheless be hard for the government to  
meet its target of reducing the budget deficit to 3.3% of GDP (vs.  
2
013  
2014  
2015  
2016  
2017  
2018  
Source: RBI, BNP Paribas  
3.5% in FY2017/2018), much like what happened last year.  
Revenues amounted to less than 28% of the full-year target.  
Although direct taxes increased sharply, indirect taxes rose only  
account balance should be minimal, because these products  
account for only about 2.5% of India’s imports. If the pressures on  
the rupee were to accentuate, in contrast, the government could opt  
to place quotas on gold imports, as it did in 2013.  
4.6%, far short of the government’s full-year target of an increase of  
more than 16.9%. VAT revenues were more than 23% below the  
government’s target. Moreover, even though the finance ministry  
reiterated its determination to reduce the fiscal deficit, it must also  
deal with a busy electoral calendar. The administration has already  
announced an increase in the minimum support price for crops.  
Despite these balance-of-payment pressures, India is in a more  
comfortable situation than it was five years ago. At the end of  
September, foreign exchange reserves covered 1.4 times its short-  
term financing needs (less than 1 year), compared with only 0.9  
times in 2013.  
The rupee is at an all-time low  
On 8 October, the dollar hit an all-time high against the rupee close  
to 74. The rupee has depreciated by around 14% since the  
beginning of 2018, the sharpest decline reported among the  
emerging Asian countries. India is vulnerable to higher oil prices and  
capital outflows. To limit the downside pressure on its currency, the  
central bank made two 25-bp key rate increases in June and August,  
but the liquidity squeeze in the financial sector is restricting the  
manoeuvring room of monetary policy.  
 Chipping away at Narendra Modi’s supremacy  
Until last May, Narendra Modi seemed to be unshakeable.  
Compared with 2014, his Bharatiya Janata Party (BJP) lost ten  
seats in the lower house of parliament after elections were held for  
four vacant seats. At end October he had a tiny majority in the Lok  
Sabha. Indeed, by joining forces against the BJP, the opposition  
parties managed to win the elections in two key bastions (Uttar  
Pradesh and Maharashtra). The coalition partner, the National  
Democratic Alliance (NDA), still holds a majority in the lower house  
of parliament but its positon is not as comfortable as it was a year  
ago. According to the latest surveys published in July, the NDA  
should win the general elections in 2019, although it will lose some  
seats. Upcoming elections in four states between now and the end  
of January 2019 will help test the risks facing the ruling party,  
although the BJP currently controls three of the four states that will  
be holding elections.  
As net oil importer (23% of imports), India reported a 22% increase  
in its trade deficit in H1 2018. Although the current account deficit  
rose by 0.8 percentage points, it was nonetheless limited to 2.1% of  
GDP thanks to remittances by overseas workers. In mid-2013, in  
comparison, the current account deficit hit 5% of GDP. Foreign  
direct investment increased slightly to 1.2% of GDP, but this failed  
to cover the increase in the current account deficit. As a result, it  
has become more difficult to finance during a period of fierce  
tensions in the emerging markets. Like the other emerging countries,  
India has reported major capital outflows since April 2018 linked to  
rising trade tensions between China and the United States, the  
strong US economic performances, and the Federal Reserve’s  
monetary tightening. In India, the stock of non-resident portfolio  
investment has declined by USD 18 bn (compared with USD 12 bn  
in Malaysia and USD 21 bn in Indonesia). Consequently, net capital  
inflows were down 79% q/q in the second quarter. They were not  
big enough to cover the current account deficit, which triggered a  
decline of nearly USD 25 bn in the central bank’s foreign reserves.  
To at least partially offset the pressures on the current account  
balance, at the end of September the government announced that it  
was raising import duty on 19 items. Yet the impact on the current  
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