IMF Says India Will Be Fastest Growing Economy in 2021, And That’s Good News, But…

The International Monetary Fund (IMF) in the World Economic Outlook update for January 2021, has forecast that the Indian economy will grow by 11.5% in 2021.

If this happens, it will be the fastest that the Indian economy has ever grown. It will also be the first time that the Indian economy will grow in double digits. (Actually, the country did grow by greater than 10% in 2010-11, but that was later revised by the Modi government, once a new set of gross domestic product (GDP) data was published).

The following chart plots the GDP growth over the years. The GDP is the measure of an economic size of a country.

Source: Centre for Monitoring Indian Economy.

It is interesting that the Indian GDP has grown by more than 9% only twice previously, and both these occasions were before the 1991 economic reforms. The economy grew by 9.15% in 1975-76 (post the first oil shock) and 9.63% in 1988-89. Post 1991, the country grew the fastest in 1999-00 when it had grown by 8.85% (after the American sanctions).

Also, among the selected economies for which IMF published data, India will be the fastest growing economy in the world in 2021. China comes in second at 8.1%.


Source: International Monetary Fund.

India growing by 11.5% in 2021 is indeed a big deal, there is no denying that. But there are a few factors that need to be kept in mind here.

First and foremost is the base effect. Before I go into highlighting the base effect in this context, let’s first understand what it means.

Let’s say the price of a stock in 2019 was Rs 100. In 2020, it falls by 50% to Rs 50. In 2021, it is expected to rise to Rs 75. This means a gain of Rs 25 or 50% per share. If we just look at prices of 2020 and 2021, the stock has done fantastically well and gained 50%.

But what we also need to keep in mind is the stock price in 2019, when it was at Rs 100. It then fell massively by 50% to Rs 50 and rose from there. Hence, the stock price rose from a much lower-base. And this lower base was responsible for a gain of 50%. Further, in 2021, the stock continued to be lower than its 2019 price. This is base effect at play.

One way to look at base effect is to look at the GDP growth/contraction forecast by IMF for 2020.

Source: International Monetary Fund.

As can be seen from the above chart, the IMF expects the Indian GDP to have contracted by 8% in 2020. Hence, in 2020, the Indian economy will be among the worst performing economies in the world. Given this, a 11.5% growth in 2021, will come on a massively contracted GDP in 2020. This is a point that needs to be kept in mind.

Also, all the countries which have done worse than India have a per capita income larger than that of India. In that sense they are economically much more developed than India is and their pain of contraction is much lesser than that of India, given that these countries already have access to the most basic economic necessities in life, which many Indians still don’t.

Let’s go into a little more detail on this point. While the IMF publishes real GDP growth data (which we have been discussing up until now), it doesn’t publish constant price GDP, which adjusts for inflation, in a common currency like the US dollar.

To get around this problem, let’s use the constant price GDP data published by the World Bank. On this we apply, the  GDP contraction/growth rates as forecast by the IMF. As per the World Bank, the Indian GDP in 2019 (in constant 2010 $) was $2.94 trillion. In 2020. A contraction of 8% in 2020 would mean a GDP of $2.70 trillion in 2020. A 11.5% rise on this would mean that the Indian GDP is expected to touch $3.01 trillion in 2021, which is around 2.4% better than the GDP in 2019.

Hence, in that sense, the slowing Indian economic growth for the last few years, followed by the covid contraction, has put the Indian economy back by two years. Of course, it can be argued that every country has gone through this. Indeed, that’s true, but that doesn’t make our pain any better.

Also, before saying stuff like India will grow faster than China in 2021, please keep in mind the fact that the Chinese GDP in 2019 was $11.54 trillion (World Bank data), which is much more than that of the India’s GDP.

In 2020, the Chinese economy was expected to grow by 2.3%. This means that the Chinese GDP in 2020 would have grown to $11.81 trillion. In 2021, the Chinese GDP is expected to grow by 8.1% to $12.76 trillion. This means an increase in GDP of $0.95 trillion in just one year. If we compare this increase with the expected Indian GDP of $3.01 trillion in 2021, what it means is that China will end up adding 31.6% of the India’s economy in just one year. Or to put it simply, China will add a third of India’s economy in just one year.

It also means that between 2019 and 2021, the Chinese economy is expected to grow by $1.22 trillion ($12.76 minus $11.54 trillion). During the same period, the Indian economy is expected to grow by $ 0.07 trillion ($3.01 trillion minus $2.94 trillion). Please keep these facts in mind before saying that in 2021 India will grow faster than China.

Between 2019 and 2021, the gap between India and China has grown even bigger and that is a fact that needs to be kept in mind. All numbers and figures need some context, otherwise they are useless and as good as propaganda, which I think will happen quite a lot during the course of the day today.

If you have already read the newspapers and the websites on this issue, you might have seen that almost all of them say that India will grow faster than China in 2021. But almost  no one bothers to mention the fact that China grew faster than India both in 2019 and 2020. Or the fact that China is growing on a significantly larger base (the most important point when we are talking percentages).

At the risk of repetition, you won’t see any such analysis appearing in the mainstream media. So, kindly continue supporting my work. Even small amounts make a huge difference.

CONFLATION (Contraction + Inflation) is Here. And It Will Stay This Year.

The British politician Ian Macleod is said to have first used the word stagflation in a 1965 speech he gave to the Parliament, where he said:

We now have the worst of both worlds—not just inflation on the one side or stagnation on the other, but both of them together. We have a sort of “stagflation” situation. And history, in modern terms, is indeed being made.”

The words stagnation and inflation came together to create the new word stagflation. The economic growth in United Kingdom in 1965 was 2.1%, falling to 1.6% in 1966. Consumer prices inflation during the year was at 4.8%. While, this might not sound much, it was the highest in more than half a decade. Inflation in United Kingdom would touch a high of 24.2% a decade later in 1975.

Hence, stagflation became a term which referred to a situation of slow economic growth or stagnation and high inflation.

Many economists and analysts are asking if India has entered a stagflationary scenario now, just like the British had in the mid 1960s. The consumer prices inflation for August 2020 was at 6.7%. The consumer prices inflation for April to August in the current financial year has been at 6.6%, higher than the Reserve Bank of India’s comfort range of 2-6%.

What is worrying is the food inflation level. Food inflation in August was 9.1%, whereas food inflation during this financial year has been at 9.6%. Within this, the inflation in the price of vegetables was at 10.9%, oil and fats at 11.8%, pulses at 18.2% and that of egg, fish and meat at 15%.

At the same time, the Indian economy as measured by its gross domestic product (GDP) contracted by 23.9% during April to June 2020, in comparison to a year earlier. Things are expected to slightly improve during the period July to September 2020, but the Indian economy will contract in comparison to last year.

Hence, during the first six months of 2020-21, India will see the economy contracting and high inflation. Stagflation doesn’t quite represent this scenario, for the simple reason that stagnation represents slow economic growth and not an economic contraction as big as the one India is seeing.

As Macleod put it in the 1960s: “History, in modern terms, is indeed being made.” What was true in the 1960s Britain is also true about the 2020 India.

Given this, it’s time to coin a new word to represent this particular situation of economic contraction plus inflation and call it CONFLATION (I considered Contraflation as well but somehow Conflation just sounded better and the word anyway means the merging of ideas, so, works that way as well).

What does this conflation really mean in the overall scheme of things for India for the remaining part of the year? Let’s take a look at it pointwise.

1) A high inflation, especially food inflation, during a time when incomes are contracting is going to hurt the economy badly. People are having to pay more for food while their incomes are contracting. This means that spending on non-food items is going to come down. This will impact overall consumer demand right through the remaining part of the year. It is estimated that poor households allocate up to 50% of their expenditure towards food. So, conflation will hurt.

Lower consumer demand also leads to a fall in investments simply because there is no point in corporates expanding production, when people aren’t buying things like they used to. This again will negatively impact the economy. (A contraction in investments has been negatively impacting the economy for close to a decade now).

2) High food inflation has primarily been on account of supply-chains from rural to urban India, breaking down. This means that the farmers are not the ones benefitting from the high food prices. Basically, the traders, as usual, are cashing in on the shortage.

This can be gauged from the fact that food inflation as measured by the consumer price index during the year has stood at 9.6%.

Food inflation as measured by the wholesale price index has stood at 3.1%. This clearly tells us who is benefitting from food inflation. It’s clearly not the farmers. If farmers need to benefit, the terms of trade need to shift in their favour, something that hasn’t happened in many years.

3) Some economists have been of the view that food prices will slowdown in the second half of the year, thanks to a bumper agricultural output. Anagha Deodhar of ICICI Securities writes: “We expect vegetable and pulses inflation to start moderating from September 2020 and October 2020 respectively due to base effect. These two items together account for almost one-fifth of food basket and hence meaningful decline in their inflation rates could keep a lid on headline inflation as well.”

While this is true, what this view does not take into account is the fact that covid is now spreading to rural areas. As Crisil Research put it in a recent report: “Of all the districts with 1,000+ cases, almost half were rural as on August 31, up from 20% in June.” This basically means that the supply chain issues when it comes to movement of food are likely to stay, during the second half of the year as well.

Also, the spread of the pandemic could impact the harvesting and the marketing of agricultural products. Hence, overall agricultural production may not grow along expected lines. Given this, food inflation may not fall as much as it is expected to and might continue to remain elevated. Again, a sign of conflation hurting the economy.

4) The medical facilities in rural India are nowhere as good as the ones in urban India (This is not to say that medical facilities in urban India are excellent). The spread of covid pandemic will mean that people will have to spend money treating the disease.

This will lead to the cutting down on spending towards other items. Also, more importantly, the spread of the pandemic will even have an impact on the spending of people who haven’t been affected by it. People will save more for the rainy day. So, conflation will continue to hurt the Indian economy.

5) Another factor that needs to be taken into account is the fact that the money supply* has gone up by more than 11.7% consecutively for the last four months. This hasn’t happened since 2014. What this tells us is that the Reserve Bank of India is really pumping in money into the financial system. If all this money keeps floating around in the months to come, then there is a real danger of this leading to a further rise in prices. (A piece on how the RBI has botched up the monetary policy remains due).

6) But all this remains valid only for 2020-21. Come 2021-22, and India will be back in growth territory again and hence, conflation will be out of the picture. This, as I had explained in an earlier piece, will primarily be because of the base effect.

Basically, the GDP figure in 2020-21 will turn out to be so terrible that it will make the GDP growth in 2021-22, look fantastic. But this won’t mean much because only in 2022-23 are we likely to go past the GDP figure of 2019-20. This means the Indian economy is likely to go back by two years and that will be the cost of conflation.

To conclude, the Indian economy will contract during the second half of the financial year. There is a slim chance of growth being flat for the period January to March 2021. Inflation, even though it might come down a little, is likely to remain high due to the spread of the covid pandemic. Hence, India will see conflation through 2020-21.

* Money supply as measured by M3.

In April to June 2021, India May Grow by 15-30%, But We’ll Still Be Catching Up

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.