India's economy is gaining strength and so is the urgency of reforms

Mint

2 days ago

Concerns around India's growth have been tempered by recent gross domestic product (GDP) data. The GDP growth of 7.4% for the fourth quarter of 2024-25 is much higher than market expectations.
For the full year, while GDP growth at 6.5% is lower than the 9.2% growth recorded in 2023-24, it is still commendable amid the global turbulence.
Last quarter's GDP growth was led by a jump in investment growth (gross fixed capital formation) to 9.4% from an average 6.2% in the previous three quarters. This was mainly driven by a sharp increase in the government's capital expenditure after the dull first two quarters of 2024-25.
Amid concerns around weak urban demand, there has been a moderation in private consumption growth to 6% in the January-March quarter from an average of 7.6% in the previous three quarters.
On the external front, India's export growth moderated, as expected, but a sharp fall in imports resulted in a positive contribution of net exports to GDP.
Growth in gross value added (GVA) for the fourth quarter of 2024-25 at 6.8% is also marginally better than expectations. The wide differential in GDP and GVA growth is explained by higher net taxes (taxes minus subsidies), as subsidies contracted in this period.
Overall, for 2024-25, healthy agriculture growth at 4.6% is on expected lines, given the good monsoon rains last year. Manufacturing growth has been feeble at 4.5% in 2024-25, though there has been an improvement in the sector's growth momentum in the fourth quarter.
Construction has been a very strong pillar for the economy, growing by 9.4% in 2024-25 on the back of strong 10.4% growth the previous year. The services sector has also maintained a healthy momentum, growing by 7.2% in 2024-25, mainly led by financial, real estate and professional services.
Also read: Growth in charts: GDP-GVA divide, export silver lining, capex push
While there has been a pick-up in growth momentum in the fourth quarter, the critical question is what to expect in 2025-26. Global trade policy uncertainty is likely to continue and cast a shadow on global growth and capital flows.
India would be relatively less impacted, given that it has less trade exposure than many of its Asian peers.
Nevertheless, India will also feel the pinch of heightened global trade protectionism. We expect India's non-oil exports growth to remain flat in 2025-26. Services exports ($423 billion in 2024-25), which have been inching closer to merchandise exports ($477 billion), will remain a strong supporting factor for the Indian economy.
However, growth in service exports will moderate from the double-digit rate recorded in 2024-25. Lower crude oil prices will be supportive of the Indian economy as it will help keep the current account deficit under control.
In the midst of muted external demand, it will be critical for domestic consumption to show a sustained uptick. Prospects of above-normal rainfall in 2025 should be supportive of rural demand and that will also keep food inflation under check.
However, it will be critical to watch for the spatial and temporal distribution of rainfall and any other weather-related risks as these can have a strong bearing on agricultural production.
Going forward, urban demand is also likely to get a fillip from moderating inflation, a lowered income tax burden and falling interest rates. However, for India's long-term consumption growth momentum, another critical aspect would be a steady increase in household income and spending ability.
This would require the creation of good job opportunities and healthy growth in real wages. The picture does not look very rosy on this front.
For instance, for India's information technology sector, which is a major employment generator in urban areas, we find that for a sample of major firms, labour costs increased by around 4% in 2024, sharply lower than the 14% increase in 2023.
Further, automation has aggravated the challenge of creating manufacturing-sector jobs.
Also read: Behind strong Q4 GDP growth is only mild uptick in economic activity
Investment growth in the economy will continue to be led by the government's initiatives. While lower interest rates and improved consumption would be supportive of a pick-up in private capital expenditure, the uncertain global environment will be a dampener.
Overall GDP growth is likely to be around 6.2% in 2025-26, with chances of higher growth if the global environment improves.
Even though the pace of economic growth went up in the fourth quarter of 2024-25, India's central bank is likely to continue its rate-cutting cycle. Abating inflationary concerns give it room to focus on growth amid global threats.
There are likely to be another 50 basis points of rate cuts this year, including a 25 basis points cut in the upcoming monetary policy committee meeting.
While overall GDP growth has moderated in 2024-25, India remains one of the fastest-growing economies globally. However, we are still far from our vision of becoming a high-income country by 2047.
This aspiration would require sustained GDP growth of around 8% for the next two decades. While the current global turmoil is a big challenge, it also presents us opportunities to increase our export share and attract foreign direct investment.
Also read: Mint Quick Edit | India's GDP: A key test lies ahead
The government needs to move quickly on reforms to grab these opportunities.
The author is chief economist at CareEdge.