GDP: GROWTH VS LEVELS

India's GDP is unlikely to recover to its 2019-20 level until the second half of 2021-22

India's GDP is unlikely to recover to its 2019-20 level until the second half of 2021-22, writes Shankar Acharya

In my article last month (“The lockdown hammer”, Business Standard, May 14) I presented two scenarios of real GDP growth during FY 2020/21, one yielding (-) 11 per cent and the other (-) 14 per cent in the full fiscal year, with the damage being concentrated in the first quarter, amounting to (-) 25 per cent and (-) 33 per cent, respectively. At that time I felt a bit lonely, with the IMF, the World Bank, most investment banks and credit rating agencies and dear old finance ministry still clustering their FY 2020-21 growth projections in the 0-2 per cent positive range. In the weeks since, there has been a growing flood of negative growth projections, including: Goldman Sachs and CRISIL at (-5) per cent, Bernstein and State Bank of India at (-) 7 per cent and the Reserve Bank of India also expecting negative growth (though coyly avoiding any numerical guidance). Among individual economists, former chief statistician, Pronab Sen, reportedly expects (-) 11 per cent. Interestingly, Goldman and CRISIL project first quarter growth to be (-) 45 per cent and (-) 25 per cent, respectively, very much in my range. Indeed, Goldman expects an even deeper plunge than either of my scenarios.

Clearly, there is a growing consensus that GDP growth in FY 2020-21 will be significantly negative, with much of the lockdown damage occurring in the first quarter of April-june. There is far less discussion and debate regarding the trajectory of the economic recovery as the ongoing “unlocking” of the economy proceeds. This is entirely understandable given the continuing massive uncertainties about the spread of Covid-19 in India and the government’s ongoing responses to the pandemic. But more analysis and discussion may help in crafting appropriate economic, medical and administrative responses.

In this spirit of speculative enquiry, Figure 1 offers one plausible trajectory of an index of the level of quarterly Indian GDP in this and the next fiscal year.

At a time of catastrophic decline in GDP, it is necessary to also focus on the levels of GDP over time, not just on growth rates as we typically do under more normal circumstances of continuous positive growth. The growth rates can be readily derived from the trajectory of levels. Furthermore, it is important to emphasise that the trajectory of quarterly GDP depicted in Figure 1 is based on the assumption that the current programme of “unlocking” the economy will continue without any significant backtracking.

In Figure 1, the base level of 100 corresponds to average real quarterly GDP in 2019-20. The graph maps the profile of quarterly GDP outlined in the more optimistic of my two scenarios presented last month for FY 2020-21 (with minor adjustments), with real GDP plummeting by 25 per cent in the first quarter and then recovering smartly in the next two quarters, but still remaining 5 per cent negative in the final quarter. After that, it assumes that the level of economic activity will continue to improve but at a more modest pace during FY 2021-22, attaining the 2019-20 level in the third quarter and ending the year about 6 per cent higher than in the final quarter of 2020-21. Figure 2 shows the implicit profile of growth rates by quarter on a year-on-year (yoy) basis.

This is, of course, only one scenario. But the broad pattern of recovery profiles in the GDP level and the associated growth rates will be similar across scenarios as long as they assume a deep plunge in FY 2020-21 Q1 and a reasonably swift recovery thereafter. Inspection of Figures 1 and 2 reveals some interesting general features:

While the lockdown causes a steep fall in GDP in the first quarter, the subsequent recovery can be quite swift initially because of “unlocking”.

Then, the upward swing of the ‘V’ is likely to flatten out as significant sectors of the economy continue to be constrained by Covid restrictions and

fears (eg airlines, travel and tourism, hospitality and entertainment) and other sectors contend with higher costs of social distancing, other restrictions and pervasive risk aversion among consumers and producers.

Recovery of quarterly GDP to 2019-20 levels is unlikely to occur until the second half of FY 2021-22, that is, about 18-24 months after the imposition of lockdown. And the recovery could easily take longer.

The probable profile of yoy growth rates by quarter in FY 2021-22 is likely to be an inverted mirror image of that in FY 2020-21, starting high and then falling instead of the opposite pattern of the previous year. This is because of the dominant influence of “base effects”.

There is likely to be a startling jump in growth rate in FY 2021-22 Q1, from negative in the previous quarter to positive and very high, essentially because of the base effect of the deep trough of 2020-21 Q1.

Considering these two full fiscal years, growth in FY 2020-21 crashes by (-) 12 per cent and then recovers smartly by 13 per cent in FY 2021-22. But the latter number simply reflects a full recovery to the FY 2019-20 GDP level, nothing more. It will not be a harbinger of the medium-term future. If the growth plunge in FY 2020-21 is lower, say State Bank of India’s projected (-7) per cent, then the recovery growth in FY 2021-22 will likely be 8 per cent.

Importantly, growth in FY 2022-23 will start from a base no higher than GDP in FY 2019-20, having lost two whole years to the Covid-triggered lockdown. That is, the base level will be around 10 per cent lower than if Covid and lockdown had not happened. This constitutes part of their permanent injury to India’s development trajectory.

What about after FY 2021-22? Can we recover to a long-term trajectory of 7 per cent plus growth? Frankly, the huge uncertainties about the spread of the pandemic in India, global economic, health and political developments and the government’s policy responses render post-fy2021-22 growth projections/scenarios enormously problematic. What we can say, with some degree of confidence, is that if we indulge in sustained fiscal profligacy, often treat the banking system as an arm of budgetary policy, resurrect a new licence-permit raj or continue down the recently adopted path of trade protectionism, then it will be extremely difficult to aspire to growth levels higher than a 3-5 per cent range in the years after FY 2021-22.