After a hiccup due to the Demonetization exercise over the past 8 weeks, India's economy will accelerate to 8% real GDP growth in 2017, aided by liquid banks and flush government revenues -- which will be deployed to boost infrastructure spending, low cost housing and agriculture. The current account deficit has ebbed to 0.5% of GDP in the year to September 2016, and is likely to swing to a surplus in the year ahead, also bolstering liquidity. Private consumption will be buoyed by strong farm incomes and the once-in-a-decade hike in government salaries.
India's net tax revenues rose a spectacular 55%YoY in November (much faster than the 21.5%YoY growth in the fiscal year-to-date), led by sharp accelerations in corporate tax revenue (+164% YoY), income tax (+41% YoY) and Service Tax (+44% YoY) in November 2016, the month in which Demonetization began. Tax evasion has clearly been reduced by the combination of VDIS, abolition of anonymous transactions and Demonetization. The introduction of the GST will complete the process, obliging most transactions to be recorded/computerised.
Many observers of the Indian economy erroneously persist in citing the industrial production index, despite the fact that it is based on obsolete 12-year old weights in an economy that has since undergone significant structural change. Excise Duty Revenues (which are paid exclusively by manufacturers) better reflect the actual state of the manufacturing sector. In November 2016, excise duty revenues decelerated slightly, but were still up a robust 43% YoY -- albeit slower than the 46% YoY increase in excise duties in the fiscal year-to-date.
Other evidence suggests the economy decelerated significantly in November, but did not fall off a cliff (as much of the Indian media has implied). Bank loans were up just 6% YoY (no doubt constraining economic growth), but bank deposits soared 16% YoY (the fastest growth rate in 4+ years). Motor-cycle sales were down 6% YoY, although domestic car and SUV sales were up 5.8% YoY in November, and car exports soared 24% YoY. Overall exports, however, did decelerate in November to 2.3% YoY growth (from 6.5% YoY in September-October). But the import recovery that began in October (+9.1% YoY) gathered pace in November (+10.4% YoY) -- indicating that domestic demand, particularly investment spending, is rebounding from a two-year lull.
Liquid banks (with their L-D ratio at 69% in November) are well positioned to grow loans much faster in 2017, with the end of the Demonetization exercise (during which banks were obliged to hold higher reserves, a requirement that is likely to be lifted at the start of 2017). With CPI inflation at 3.6% YoY in November and likely to decline to another 11-year low in December, we expect the policy rate to decline at least 100bp over the next 9 months. Lower interest rates, and the likely decline in property prices across urban India (as a result of the decline in black money used in the real estate market), will help bolster the recovery in domestic demand already evident in strong imports in the last two months. Take India overweight in your portfolios for 2017.
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