Has the investment cycle of our economy finally turned up?
A question asked often is whether or not private sector investment is on track. The answer at best is a shoulder shrug, as the signals available differ. It is usually argued that when the government spends big on infrastructure, it crowds in private investment. Construction means more business for sectors like steel, cement, capital goods, etc, thus leading to a virtuous circle of economic activity. This explanation has been advanced for over five years, but there is still no straight answer, as we still await a private-investment pick-up. How can one form an informed judgement on this aspect of India’s economy?
A question asked often is whether or not private sector investment is on track. The answer at best is a shoulder shrug, as the signals available differ. It is usually argued that when the government spends big on infrastructure, it crowds in private investment. Construction means more business for sectors like steel, cement, capital goods, etc, thus leading to a virtuous circle of economic activity. This explanation has been advanced for over five years, but there is still no straight answer, as we still await a private-investment pick-up. How can one form an informed judgement on this aspect of India’s economy?
Companies always say they expect business to revive and hence would be investing more in the future. This is the common thread in most investor presentations made on a quarterly basis. These statements are often based on aspirations and assumptions that business conditions will improve. It is hard for any CEO to state the contrary, as it would affect the company’s share price. Therefore, what companies say should be interpreted with caution. They invest when they foresee a return on investment, which is not the case with the government, which spends because it has to do so.
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Companies always say they expect business to revive and hence would be investing more in the future. This is the common thread in most investor presentations made on a quarterly basis. These statements are often based on aspirations and assumptions that business conditions will improve. It is hard for any CEO to state the contrary, as it would affect the company’s share price. Therefore, what companies say should be interpreted with caution. They invest when they foresee a return on investment, which is not the case with the government, which spends because it has to do so.
India’s rate of gross fixed capital formation, which tracks investment, is expected to improve to 29.8% of GDP this year from 29.2%. This is not very significant and the number takes into account aggregate investment, not just that of private industry, but it is a positive indication for sure. Another bit of information on industrial performance shows capital-goods growth from April-November held steady at 7.6%, as against 14.8% last fiscal year, which is impressive despite an apparent slowdown as it comes on a high base. On the other side, industry’s capacity utilization rate, based on RBI surveys, was at 73.6% in June 2023. Though based on a limited sample of companies, this level is not enough for more investments to be made. It will take 78-80% for that, depending on how strong demand is.
Investment can be looked at from a financing point of view because most capital formation is funded by the financial system. The corporate bond market is an obvious source of long-term funds. Issuances till January, as per Centre for Monitoring Indian Economy (CMIE) data, at ₹6.72 trillion were higher than last year’s ₹6.37 trillion. While this looks encouraging, 80% has been raised by financial companies, compared with 74% last year. So non-financial firms have raised just ₹1.34 trillion. Equity issuances for the first 10 months at ₹1.51 trillion are higher, too, than last year’s ₹1.11 trillion, which indicates investment activity. Bank credit growth so far, till 12 January, has been marginally lower at 16.3%. However, data till December shows that this has been driven mainly by personal loans that have grown by 28.5% and lending to the services sector (up 23%). Some comfort may be drawn from the fact that growth in credit to manufacturing has held up at almost the same rate as last year, 8.6%. In fact, large industry, which was a laggard, has grown at a stable rate of 7%, driven by categories like food processing, textiles, chemicals, glass, etc.
The foreign direct investment (FDI) picture is just about stable. For the first eight months of the year, gross inflows have been lower at $47 billion, compared with $49 billion last year. FDI is taken as another driver of domestic investment as these inflows result in capital spending. External commercial borrowing (ECB) approvals have also been higher in this fiscal year at $36 billion, a jump from around $20 billion in 2022-23 (till December).
The overall picture is mixed. There are some signs of support for the crowd-in hypothesis. The flow of funds is more to sectors linked with infrastructure. Another way of looking at investment is in terms of intention. For this, CMIE data captures new investment announcements across the spectrum. It can be argued that if money is being sourced from anywhere to invest, it should translate into project declarations, although these need not turn into actual investment. Yet, this data is worth looking at. For the first three quarters of the year, new investment announcements at ₹12.89 trillion, were at their lowest in the past five years if the covid period is excluded. And around 40% of it was in the aviation industry where aircraft are being procured, followed by power (26%), metals and machinery (11%) and chemicals (6%).
Some conclusions can be drawn by putting all this data together. First, investment is not broad-based, as no clear picture supports such a view. Second, sectors related to government spending are investing for sure. Third, a large chunk of funding is coming from internal resources, as the debt market and banking system don’t show sharp uptrends. Foreign loans are being relied upon, but have a preponderance of finance companies, especially state-owned. And a substantial amount is being used for refinancing. Last, there needs to be a major consumption push to get in more capital investment.
In conclusion, with the policy push of the government, there are some signs of private investment picking up, albeit in a scattered manner. More momentum is needed, which should hopefully materialize in 2024-25.
These are the author’s personal views.
