India production growth suffers

Risks to growth outlook lie to the downside in the near-term, says DBS.

DBS Group Research noted:

Industrial production (May) is on tap today. Consensus expects 1.8% (YoY) growth, close to our expectation for 2.2% YoY print. In view of the volatility in production data, this is not a material difference, and there is always scope for large deviation from expectations.

Essentially, production growth, especially capital goods production, has suffered in recent months. This probably owes to the disappointment following the lackluster budget in March and outright anxiety created by tax policy uncertainty and the prospect of retrospective changes to tax policy. There have been some efforts at damage control by the government but it is not clear yet that retrospective changes to policy will be completely done away with (which is disconcerting).

In addition, slowing global growth and slowing domestic growth momentum will begin to moderate business expectations for consumption demand growth ahead. Together, risks to growth outlook lie to the downside in the near-term.

Having fallen sharply, however, there is scope for some correction in capital goods levels over the next few months (even as it remains sub-par). Such could lift overall production growth to 9% (MoM, saar) rate in May-Sep, and translate to 2.2% on-year growth rate in May.

Production growth could improve to 6% (YoY, 3mma) by September and December. Such would still mean sub-par 2012/13 (Apr-Mar) growth of 5% and similar growth in GDP industry sector, though modestly better than the 2.7% growth in the year before.

For the overall economy, this means growth of 6.2%. Some improvement in the policy environment is priced into our forecasts but it is not likely that investment immediately responds to the same as businesses would likely wait to assess the durability of any policy changes / improvement, and rightly so.

Another 50bps reduction in the policy rate is also penciled in our forecast (by September), making for a total 100bps reduction in interest rates.