Summary: Base effect – The collapse in GDP during the April to June 2020 is going to make the GDP growth during April to June 2021 look fantastic.
I want to make a prediction here. And this is a fairly easy one.
A year from now, in early September 2021, you will see a spate of WhatsApp forwards and social media posts, which will say that India is the fastest growing large economy in the world.
And unlike most other times, when WhatsApp forwards and the social media are either trying to outrightly lie and if not that, then at least trying to mislead, this time around they will be 100% correct.
Of course, this grand success will be attributed to the greatness of the current government. And that’s where the misleading part will come in again.
All that will happen is the base effect will come into play. Now what’s the base effect? Instead of me giving you a definition and confusing you, let’s try and understand this in some detail, but in a simple way.
For the period April to June 2020, the Indian gross domestic product (GDP), a measure of economic size, was at Rs 26.9 lakh crore. This was 23.9% lower than the GDP during the period April to June 2019, which was at Rs 35.4 lakh crore. Hence, the GDP came down by a massive Rs 8.5 lakh crore.
The major reason for this was the massive contraction of 26.7% in private consumption, in comparison to April to June 2019. Over and above this, the investment in the economy contracted by 47.1%.
Given that consumption and investment are two major parts of the economy, it is hardly surprising that the economy contracted by as much as it did.
Nevertheless, as the economy opens up and people gradually go back to doing things like they always used to, the private consumption number is bound to improve gradually. The investment in the economy will also go up albeit at a much slower pace.
The reason for this lies in the fact that even before covid struck, the Indian industry had excess capacity and the capacity lying idle has gone up post covid.
This will ensure that the GDP figure for the current and the next two quarters will improve. By the time April to June 2021 comes around India will be in growth territory and that too a massive one.
The GDP during April to June 2021 is bound to be much more than the GDP during April to June 2020 (unless there is a lockdown of similar proportions). This is where things get interesting.
Let’s see what the GDP growth in April to June 2021 is likely to be at various levels of GDP in comparison to the GDP of Rs 26.9 lakh crore in April to June 2020. The chart plots various scenarios.
Up, up and away
Source: Author calculations and National Statistics Office.
As can be seen from the above chart, the GDP growth figure is likely to be very high for the period April to June 2021.
If the GDP were to recover to Rs 30 lakh crore, the growth will be 11.5%. But in absolute terms we will still be where we were in April to June 2016, when the GDP was at Rs 29.7 lakh crore. So, we will be around five years behind.
If the GDP were to recover to Rs 31 lakh crore, the growth will be 15.2%. But in absolute terms we will still be where we were in April to June 2017, when the GDP was at Rs 31.4 lakh crore. So, we will be around four years behind.
If the GDP were to recover to Rs 32 lakh crore, the growth will be 19%.
If the GDP were to recover to Rs 33 lakh crore, the growth will be 22.7%.
If the GDP were to recover to Rs 34 lakh crore, the growth will be 26.4%. But in absolute terms we will still be where we were in April to June 2018, when the GDP was at Rs 33.6 lakh crore. So, we will be around three years behind.
If the GDP were to recover to Rs 35 lakh crore, the growth will be 30.1%. But in absolute terms we will still be where we were in April to June 2019, when the GDP was at Rs 35.4 lakh crore. So, we will be around two years behind.
In exact terms, India needs to grow by greater than 31.6% in April to June 2021 to be able to cross where we were in April to June 2019. Even in the most optimistic scenario, covid has probably cost us two years of growth.
Hence, the growth in April to June 2021 will look fantastic. And that’s simply because the GDP in April to June 2020 simply collapsed. This collapse will lead to the GDP growth April to June 2021 looking very good. And this, dear readers, is nothing but the base effect at play. Also, if the GDP figure for April to June 2020 gets revised downwards, as it is likely to be, then the growth figure will look even better.
Given this, the GDP growth numbers during 2021-2022, the next financial year, will have to be taken with a pinch of salt. The numbers from April to June 2022 onwards will tell us the real story about economic growth being back on track or not.
Of course, given that most of us do not understand basic fifth standard mathematics or simply choose to ignore it, we will buy into this massive double-digit growth story.
Yes, we did it. It’s always been more fun to believe in rhetoric than use the brain. And a year down the line in history isn’t going to change that.