GDP growth, estimated at 8.6 per cent during 2010-11, reverted to its recent trend, aided by rebound in agricultural growth. Industrial growth moderated in the second half of the year reflecting the effect of higher base and some moderation in investment demand. The services sector maintained momentum in most of its segments. Buoyant overall agricultural performance and continued services sector growth momentum augur well for growth in 2011-12. However, risks to growth ahead arise from rising prices of oil and industrial raw materials, decelerating investment demand and high inflation.

Indian economy grew at around its trend rate in 2010-11

I.1 Real GDP growth in 2010-11 reverted to near trend growth rate, following two successive years of below trend growth (Chart I.1a). Nonagricultural GDP growth, however, was slightly below the trend (Chart I.1b). The main impetus to the growth in 2010-11 came from agriculture which benefited from a normal monsoon, while industry and services registered mild deceleration (Table I.1). This moderation was primarily during the second half of the year due to the waning of the favourable base effect as well as deceleration in Government-spending related services. Growth is expected to stay near its trend during 2011-12 with upside factors such as buoyant private consumption demand and improved external demand getting counterbalanced by likely adverse impact from high fuel and commodity prices and prevailing risks to global growth from the debt crisis in parts of the Euro zone. Demand conditions are discussed in Chapter II of this report.

Agriculture sector outlook remains strong

I.2 Agricultural production rebounded in 2010-11 after drought conditions in the preceding year caused a contraction. Foodgrain production reached a new record with both Kharif and Rabi crops turning out to be good. A satisfactory North-East monsoon following the normal South-West monsoon coupled with favourable sowing and reservoir positions improved the prospects for agricultural production during 2010-11. At 2 per cent and 21 per cent above their respective long period averages (LPA), this is the first time in the last ten years that both the South-West and the North-East monsoons surpassed their respective LPAs. There has, however, been a secular decline in the long-term average rainfall during June-September over the years (Chart I.2). This reflects deterioration in climatic conditions that may have long-run detrimental consequences for agricultural output in India.

I.3 Area sown under major Rabi crops, in particular, wheat and pulses, have surpassed their respective normal areas sown and levels achieved in 2009-10 by significant margins. Rabi sowing of all crops as on April 15, 2011 was 4 per cent higher than the level achieved during the previous year (Table I.2). The foodgrain production in 2010-11 is estimated to be the highest ever, surpassing the previous peak achieved in 2008-09. Significant increases in the outputs of key agricultural products would help in reducing the pressure on food prices. Agro-based industries could benefit from higher agricultural growth. Higher agricultural growth could also translate into better rural incomes which could help boost the demand for other sectors.

Record wheat production requires focus on food management

I.4 With record wheat production witnessed in 2010-11, there is need for focussed attention on food management. This is essential for building optimal food stocks while averting the problem of plenty caused by bumper harvests. The total stock of foodgrains with the Food Corporation of India (FCI) and other Government agencies declined to 44.4 million tonnes on March 31, 2011 (60.9 million tonnes on June 30, 2010) partly reflecting the Government’s policy of faster release of foodgrains to the market to ease food inflation (Chart I.3). The Government has fast-tracked the process of creating new storage capacity of 150 lakh metric tonnes through private entrepreneurs and warehousing corporations while making capital investment in modern storage capacity eligible for viability gap funding. Going forward, the challenge for food management and procurement will be to ensure that the volatility in food prices does not get amplified.

Industrial growth decelerates on account of high base effect and moderation in investment demand

I.5 During 2010-11 (data available up to February 2011), the industrial sector exhibited signs of slowdown as the IIP growth moderated with intermittent episodes of volatility mainly on account of the high base effect and sharp deceleration in capital and intermediate goods which could partly be attributed to the moderation in investment demand in Q3 of 2010-11 (Chart I.4).

I.6 The lower growth in IIP during April- February 2010-11 compared to the corresponding period of the previous year has been on account of the slowdown in growth of almost all the sectors except consumer goods (Table I.3). The contribution of intermediate and capital goods to the overall IIP growth declined, reflecting some moderation in investment demand. The continued high growth of consumer durables segment reflects higher private consumption demand.

Amidst slowdown, manufacturing activity spread more evenly now

I.7 One notable feature of the pattern of IIP growth is that the activity in manufacturing sector has become more evenly spread with fifteen out of seventeen industries recording positive growth during April-February 2010-11. Moreover, the contribution of the bottom twelve industries to the overall IIP growth has increased (Chart I.5).

Recent IIP slowdown exacerbated by volatile components

I.8 The recent IIP slowdown during the period November 2010 to February 2011 has been exacerbated by a few industries. If IIP growth is calculated after excluding the top 10 and the bottom 10 items that tend to disproportionately impact the overall IIP on account of wide volatility, the growth in February 2011 would be close to 8.8 per cent vis-à-vis 8.7 per cent in January 2011 and 11.2 per cent in February 2010. This suggests that the deceleration is not as pronounced as it may appear from the headline numbers. Nevertheless, the risk to industrial growth remains with deceleration in output of capital goods (Chart I.6).

Growth of core infrastructure sector remains moderate

I.9 The six core industries (26.6 per cent of total weight in IIP) registered marginally higher growth during April-February 2010-11 as compared with the same period in the previous year while the year-on-year growth indicates some moderation in recent months (Chart I.7). Acute shortage of coal from domestic sources seems to have had some adverse impact on electricity generation. Growth in crude oil has been robust during the year partly due to base effect. Closer attention to investment in core infrastructure industries is necessary in view of likely energy deficits over the medium term.

High oil prices likely to affect near term growth

I.10 Uncertainty in the Middle East and North Africa (MENA) adds to upward risk in international oil prices. Analysis in the Indian context indicates likely adverse impact of rising input cost on GDP. Sectors such as surface and air transport, synthetic fibre and chemicals, cotton textiles, paper products, rubber and plastic, cement and foodgrains have high input linkages with oil.

Capacity utilisation inching up

I.11 The evidence on capacity utilisation, order books and inventories provides a mixed picture on cyclical conditions in the industry. There has been some improvement in the overall capacity utilisation in Q3 of 2010-11 and order books improved during the quarter (Chart I.8). It still remains below the levels during the same period of the previous year. For the core industries, while capacity utilisation in petroleum refining and fertiliser remains stretched, that of cement and thermal power generation has eased in line with the production trend for these two industries.

Employment gaining traction supported by IT and automobiles industries

I.12 The ninth round of the series of “Quarterly Quick Employment Surveys” conducted by the Labour Bureau to assess the impact of the economic slowdown on employment in India for the quarter ended December 2010 indicates that the employment situation showed substantial improvement in major industries/ groups led by the IT/BPO and the automobile industries (Table I.4).

Services sector exhibits sustained momentum

I.13 The services sector growth moderated during Q3 of 2010-11 led by deceleration across all sub-sectors except ‘financing, insurance, real estate and business services’. The ‘community, social and personal services’ sub-sector decelerated sharply in 2010-11 so far, reflecting the resumption of the fiscal consolidation process. Nevertheless, the outlook for services sector remains positive with lead indicators of services sector such as tourist arrivals and cell phone connections recording robust growth as per the data available so far for 2010-11. Commercial vehicles production, air cargo and passengers handled at domestic and international terminals registered higher growth indicating buoyant transport sector. Leading indicators of construction activity show a mixed trend with improvement in growth of steel production and deceleration in cement (Table I.5).

Growth momentum likely to sustain at close to trend

I.14 Current growth conditions suggest that the Indian economy is neither overheated, nor does it face a slack. Growth conditions have shown slight moderation of late, but GDP is still likely to grow close to trend in 2011-12. The India Meteorological Department (IMD) has predicted a normal monsoon in 2011. Following a record Rabi outturn, this can bolster agricultural growth further. Manufacturing is expected to sustain the momentum as reflected in the strong private consumption demand and improvement in external demand. PMI for March 2011 also suggests sustained expansion. Monsoon turning out to be less than normal is a potential downside risk. If recent increases in crude oil and industrial raw material prices persist, they could weaken the growth momentum amidst high inflation. Downside risks to growth also arise from higher cost of capital and any weakening of consumer confidence as the cost of leverage goes up.