In this article we will be talking about whether GDP is an effective measure to estimate economic development in India or not. Firstly, we will talk about some of the problems of GDP measure that is common to all i.e. arises out of the concept of GDP itself. Then, we will move on to India specific scenarios and try to access whether that GDP paints a complete picture or not.
Problems common to all
A quick glance at any macroeconomic book will introduce you to the limitations that we will be talking about. But they understanding of which is important nonetheless for understanding the bigger picture. Before moving on to these problems let us define GDP first. GDP is the sum total of all Goods and services produced within the domestic territory of a country within a given period of time. It can be calculated via three approaches sum of all income, sum of all expenditure and lastly sum of value added by different sectors. It excludes goods and services produced for self-consumption because of lack of records for reporting and sales and purchase of second hand goods.
GDP assigns equal weightage to the same magnitude of benefit driven by two different income classes. Let us understand the statement with an example: Let us say the income of a person X increases by Rs.1000. Then the GDP will also increase by Rs. 1000. Introducing a microeconomic concept to aid our analysis alias utility analysis. Suppose person X has, 1) an annual income of Rs. 10 Crores or 2) an annual income of Rs. 10 Lakh. In which case this Rs.1000 will provide higher utility? Have we done anything to address that in GDP?
GDP assign equal weightage to two types of goods namely Goods and Bads. What we essentially mean, a cigarette of worth Rs. 10,000 carries the same weightage as Essential Medicinal Drug worth Rs. 10,000. GDP doesn’t take into account the externalities. For example, suppose a bridge worth Rs. 100 Crores is constructed. Due to which the travel time was increased by 20 mins while it was under construction and decreased by 10 mins after it was completed. GDP will only take into consideration the monetary value of the bridge and not the positive or negative outlook. Given the climatic conditions of metropolis similar argument can be extended to dust particles emission via construction. Something to ponder upon specifically in Indian context.
Arising Because of Indian Scenario
The Employment and Contribution to the economy via different sectors leads to some difficulties in assessing the development via GDP. Let us look at certain facts and figures to understand the same.
Contribution of Agriculture sector to GDP is mere 16%. But it employees nearly 43.86% of the populace (as per ministry of labour and ministry of stats). The largest contributor is of course services with 54%. Now suppose the whole GDP is 100, if service sector contribution was to increase by let’s say 10%, and that of agriculture was to decrease by let’s say 10%. The new fig will be 14.4 and 59.4 with a total of 103.8. Even when agriculture sector fell the overall GDP was increasing because of the boost provided by services. This would have not posed a problem, but when we bring in employment into the picture. The whole rosy picture gets distorted. A 10% fall in agriculture impacts a larger share of population than a 10% increase in the services. A counter argument can be the income multiplier i.e. increased income from one sector moves to another and the impact is magnified. But that is a complex phenomenon, with propensity to consume of different sectors. Let us for the sake of argument accept this phenomenon. But the same is not reflected in the income equality. India was the second most unequal country in the year 2016 after Russia. In the year 2019, A survey by Oxfam shows that top 1% of Indian Economy own more than 73% of wealth. Which seems reasonable given the service sector is consolidated industry with a larger share coming from a few major players. Let us look at data of GVA by Agri sector to get a glimpse of its condition.
As we can see from the above graphs, period where we were talking about high GDP growth rate. Our Agri sector was facing problems of its own. We have indeed seen some stress upon the Agri sector in recent times the early signs of which can be seen in above figure.
The last argument that we would like to point out is the shadow economy. Before moving on to the complication. Let us define what it exactly means:
Bhattacharyya (1999) describes the hidden economy to be a sign of the unrecorded national income “calculated as the difference between the potential national income for the given currency in circulation and the recorded national income.”
In the famous paper, the rise of the shadow economy: An Indian perspective. A deeper definition of shadow economy is provided. shadow/hidden/black/gray economy can be defined as— the segment of a country's economic activity that is derived from sources that fall outside of the country's rules and regulations regarding commerce. In simple words, it can be stated as the unrecorded or unaccounted national income. It could also be stated as the contribution of the informal sector that goes unaccounted or the outcome of the illegal activities that are prevalent in the country. In a broader sense, we can say black economy captures part of the income from both the illegal and legal activities that could not be used in the formal compilation of the productivity of an economy.
From the above definitions key takeaway is that shadow economy is not just illegal activities but is also the sum of legal activities which cannot be simply recorded because of lack of proper records. Let us look at certain figures to understand why it is a problem:
According to the paper, “Estimating the Size of Black Economy in India, Chandan Sharma, MPRA Paper No. 75211, posted 24 Nov 2016 15:14 UTC”. The size of the shadow economy is greater than 50% in India. As per International Labour Organization (ILO) 81% of Indians are still employed in informal sector. Looking at a figure which represents less than 50% of the economy while ignoring the other part is not a right way of looking at the economy. Also, this figure which uses an estimate called Mixed Income to take into account the informal sector doesn’t paints a fair picture of the Indian Economy.
GDP is not an accurate measure if we are looking at just GDP. There are various other parameters which must be stressed upon such as Purchasers Managers’ Index, Index of Industrial Production, GVA of different sectors and lastly qualitative factors such as HDI, Corruption Index, Ease of Doing Business and Electrification etc. But a step must be taken to formalize the economy, GST was one such step in the right direction. We must understand when we force something to change it takes time to adjust. Forcing a large section of economy to shift to formalization is a big move and surely had its impact on the economic development. But we must not forget the big picture of formalization while looking at individual scenarios.
References and Data Sources: Ministry of Labour, Ministry of Stats, International labour organization, Estimating the Size of Black Economy in India, Chandan Sharma, MPRA Paper No. 75211, posted 24 Nov 2016 15:14 UTC, The rise of the shadow economy: An Indian perspective by Priyanka Menon, LiveMint & Economic Times Articles, Business Today, Oxfam.
What’s plaguing Indian Banking Industry?
The banking industry has been dominated over the past couple of years by NPAs, falling stock prices, failing banks and government recapitalization. The fall in specific bank share prices has illustrated both broader economic credit issues and the lack of speed in non-performing asset identification (NPAs). Nevertheless, the problem surrounding PMC bank reminded us that the clean-up in the banking system in India has significant work that needs to be done not only in terms of credit quality but at the same time in terms of systemic corporate governance issues that form the cornerstone of the economic growth.
Four issues that have come to the forefront in the past few years are listed below:
The solution to the first two issues is dependent on lenders ability to evaluate sectoral, corporate and project risk considering the balance sheets while the last two revolve are the level of corporate governance standards.
An alternative way of looking at the above issues is as the building blocks on which every credit system is based. The basic premise of a robust and usable credit system is solutions that answer the fourth point stated. Third point solutions are based on those for the fourth, and so on. Essentially, the approaches to the banking system need to draw on each other. Otherwise, solutions that enable higher capacity for the lending institution based on project assessment will become unless in the absence of basic corporate governance standards.
NPA story of India defined
As of 31 March 2018, the total volume of gross NPAs in the economy stands at 10.35 lakh crores which is interesting as it is around 11% of the entire credit disbursals. 85% of these are a gift from our very own public sector banks. SBI the largest bank of India is sitting on NPAs of Rs 2.23 lakh crore. The ratio of NPA to credit disbursals was a mere 2 odd per cent in 2007-08. The important question to ask is why the tables turned in less than a decade?
One of the reasons is that the nation has experienced an unprecedented credit boom from the period of 2003-04 to 2007-08. Growth of AUM in mutual funds and the rise of NBFC also has played its part in the credit growth. The important point in consideration is that the boom was happening despite the monetary tightening policy. Repo was 9 per cent in 2008 raised from 6 per cent in 2004 and a CRR of 9 per cent from 4.75 per cent. The policy marked a shift with the financial crisis of 2008 and rates were cut to support the economy in distress.
Credit booms are usually followed by banking stress. The expansion of credit was unprecedented, with an average annual growth rate of 18.69%, while nominal GDP growth rates were 12.62. It's rightfully said that every project looks rosy in a period of economic growth. When the tables turned the loans became the NPA’s the bank are not finding difficult to work around with.
PCA framework Explained
Prompt Corrective Action or PCA is a framework under which banks with weak financial metrics are put under watch by the RBI. The Reserve Bank has specified certain regulatory trigger points, as a part of prompt corrective action (PCA) framework, in terms of three parameters, i.e. capital to risk-weighted assets ratio (CRAR), net non-performing assets (NPA) and Return on Assets (RoA), for initiation of certain structured and discretionary actions in respect of banks hitting such trigger points.
Since most bank operations are financed by deposits that need to be repaid, a bank must carry enough capital to continue its operations. PCA aims to help warn both the regulator and investors and depositors when a bank is heading for trouble. The aim is to head off concerns until they hit levels of crisis.
LIC the saving grace for IDBI bank
LIC had to come to the rescue for bailing out IDBI bank picking up 51% cent in the bank and taking it private. The picture looks far from rosy. The massive ₹21,624 crore of capital that LIC infused into the ailing bank last fiscal, has been sucked into the bank’s losses. What’s more, the bank’s bad loan troubles don’t appear to be easing any time soon. Will the so-called synergies for LIC work out is what remains to be seen?
PMC bank fiasco and other banking scams
Co-operative banking institutions account for about 8% of deposits and 9% of advances and loans in India. PMC frequently extended loans to HDIL and not disclosing NPA led to capital erosion for the bank. The bank without adequate capital had to put a stop on withdrawals. PNB Nirav Modi is the most infamous scam that came to limelight. Bank staffers issued fake bank guarantees of worth more than 13k crores over the years. Mehul Chowksi of Geetanjali gems was also named among those in banking fraud. Religare charged Laxmi Vilas bank of misappropriating funds of their fixed deposit.
Recapitalization is the strategy to improve the financial stability of the banks by much-needed capital infusion. Government has continuously made capital infusions to take care of continuous losses of the banks and assist in maintaining capital adequacy ratio. Recapitalization of PSBs in FY20 would support growth by encouraging the flow of credit to the economy, although simultaneously adding to the government’s debt.
It is always possible to be wiser after the event. Nevertheless, we need to research the past to conclude the future. There are lessons to be learned for RBI, Government and the banks. It the regulatory responsibility to track macro indicators such as overall credit growth and decide the monetary policy in accordance. It needs to consider the financial and business cycles. There is no substitute to good governance. The government needs to ensure banks run in the larger national interest but at the same time decision making should be left to the bank board. There is a need to empower the bank boards. Banks need to own the soundness of their credit decisions. The need of the hour is a robust framework for credit decision in the system so that the backbone of the economy keeps flourishing generating prosperity in turn.
Sources: The Hindu, The Hindu Business Line, Economic Times, Business Standard, Forbes India, PRS India, Bank report RBI
Banking industry is the backbone of Indian financial Industry. The Indian banking industry consists of 27 Public sector banks (The number to be reduced to 12 post the mega merger), 21 private sector banks, 49 foreign banks. 56 regional banks, 1,562 urban banks and 94,384 rural co-operative banks in addition to cooperative credit institutions across the country.
Scheduled banks are accounted for in the second schedule of the RBI Act and are governed by the general rules like CRR requirements, paid-up capital etc. Non-Schedule banks do not have to comply with any RBI regulations. These are local banks which usually maintain cash reserves with themselves.
The banking regulator has also allowed new entities such as payment banks and small finance banks to be created thereby adding to the number of entities operating in the sector. However, the financial sector in India is predominantly a banking sector with commercial banks accounting for more than 60 per cent of the total assets in the financial system.
In FY 07-18, total lending increased at a CAGR of 10.94 per cent and total deposits increased at a CAGR of 11.66 per cent. India’s retail credit market is the fourth largest in emerging countries. It increased to US$ 281 billion in December 2017 from US$ 181 billion in December 2014.
Must-Know Banking Terms
Deciphering the Payment Banks and Small Finance Banks
Payment banks are the new mode of banking started by RBI to promote digital, paperless and cashless banking in India. The objective is to reach out to the unbanked and underbanked by using mobile phones and increasing internet penetration as the tool. The banks are allowed to accept deposits up to 1 lakh rupees and they are not allowed to lend money. Payments banks can issue services like ATM cards, debit cards, net-banking and mobile banking. Airtel payment bank was the payment bank to start operations. Paytm payment bank, Indian Post payment bank and Jio Payment bank are some of the popular payment banks in the country.
Small finance banks were niche banks started to promote financial inclusion of sections of the economy not being served by other banks, such as small business units, small and marginal farmers, micro and small industries and unorganised sector entities. The banks can take part in both lending and deposit activities. Post RBI guidelines, a series of banks previously that were microfinance organization have come up and many of them have already made a listing on the Indian bourses. Ujjavan small finance bank had a bumper listing recently as the stock listed at a premium of 59% on exchange. In the latest move, RBI has also allowed conversion of payment banks to small finance banks post 5 years of operations.
Key trends in Banking Sector in India
The banking sector of late has been in news for wrong reasons be it the case of Chandra Kochar or state of affairs in Yes bank. While challenges from digitisation and fintech remained, it was the asset quality that has remained in limelight for the past few years. The performance has also taken a beating due to stricter provisions. Let’s try figuring out what remains in store for us in the year 2020?
Indian economy is going through a tough spot with consumption taking a back seat and private investment slowing down. Government has been pushing for lower interest rates for credit to take off and for demand to stay upbeat. RBI has been constantly cutting down on interest rate but with the rising inflation, the rate cuts may take more time to materialize soon. The government has been focused on recapitalizing the banks on their end and we do expect things to pick up the next year. The Banking sector overall is likely to improve in the next year will the worst behind its back and we can only expect things to improve soon.
IBEF CRISIL PRSINDIA ALPHAInvesco HinduBusiness line
Source: Google Images
The insurance industry in India has always been characterized as one with tremendous potential. Post- liberalization, it has witnessed tremendous growth with private and foreign players being allowed to enter the market. There are 57 insurance companies with 24 engaged in Life insurance business and 33 non-life insurers. Gross premiums written in India reached US$ 94.48 billion in FY18, with US$ 71.1 billion from life insurance and US$ 23.38 billion from non-life insurance. Over FY12–18, new business premiums of life insurers in India have increased at a 14.44 per cent CAGR, while premiums for non-life insurers increased have increased at 16.65 per cent CAGR in the same period.
Despite this, insurance reach in India is still low. Overall insurance penetration (premiums as % of GDP) in India was 3.69 % in 2017, compared to a global average of 6.13 %. Insurance density (premium per capita) is a mere $ 73, nearly one-tenths of the global average density of $650. While the government schemes have aided a growth in the insurance penetration and density, India’s numbers are much lower than the Asian average too.
Going forward, this sector will have a key role to play in the economy on two main fronts. First is the element of financial inclusion by insuring the uninsured. In a country with close to 1/4th of the population(over 300 mn) living below the poverty line, protecting people’s assets and source of livelihood becomes even more crucial. Secondly, it will play a major role in generating long term funds. Banks and other financial institutions typically have short term liabilities(demand deposits etc) and hence investing in long term assets leads to AL mismatch. Insurance companies however typically have longer term liabilities and are in the position to provide long term funds by investing in government securities, mutual funds etc.
Type of life Insurance Policy
Type of general Insurance Policy
Growth in Financial Industry- Overall growth in the financial industry has led to increasing awareness about financial products and services. This has helped to increase the number of Point of Sales (POS) and potential for cross-selling, with third party distributors like banks playing a major role in increasingly advising customers about overall financial portfolio, with insurance being a fundamental part of it. This is commonly known as bancassurance.
Digitization- With growing internet penetration, companies like policybazaar, coverfox have provided large scale aggregation of various insurance products, making it easier than ever to have access to insurance related information, products and services. It can be thought of as being analogous to the impact of Zomato and Swiggy on the food service industry. E-commerce companies like Flipkart and Paytm have also tied up with insurance companies to sell insurance on their platforms. Insurance companies also welcome this change as it gives them a higher gross margin compared to offline distribution through banks,
Privitization/FDI- The private sectors role in the industry has been increasing over the last 2 decades, with market share of private sector in non-life rising to 55.7% from 13.1% in FY03. Private players bring in innovation, better practices, and greater trust among potential customers, especially since the Indian insurance industry has traditionally been riddled with misselling, fraud and malpractice. The permitted FDI limit has been increased from 26% to 49% for insurance companies, and 100 percent for intermediaries. Greater competition implies better practices and most importantly better prices.
Growth in specific segments- Apart from factors impact the industry in general, there are also specific growth drivers for different kinds of insurance. For example- Increase in demand of motor insurance as a by-product of rapidly expanding auto industry; Increase in health insurance due to focus on improvement in healthcare etc; rise in crop insurance due to support to farmers etc. Health and motor insurance in particular are expected to drive growth in the sector over the next decade.
Policy Support- Apart from easing of FDI norms, several policies and schemes have provided a boost to the sector. Some of them are:
Is India Under-Insured?
Micro-insurance has emerged as a useful means for expansion and has led to creation of new products and exploration of novel distribution channels. For example, Ola Cabs tied up with Acko General insurance to provide travel insurance worth 5lacs while booking a cab through the app, at the cost of ₹1.
Cost optimisation- Players in industry are investing in Information Technology to automate various processes and cut costs without affecting service delivery. It is estimated that digitisation will reduce 15-20 per cent of total cost for life insurance and 20-30 per cent for non-life insurance. From October 2016, IRDAI has mandated having an E-insurance (electronic insurance) account to purchase insurance policies.
The future looks promising for the life insurance industry with several changes in regulatory framework which will lead to further change in the way the industry conducts its business and engages with its customers. The overall insurance industry is expected to reach US$ 280 billion by 2020. Life insurance industry in the country is expected grow by 12-15 per cent annually for the next three to five years. Demographic factors such as growing middle class, young insurable population and growing awareness of the need for protection and retirement planning will support the growth of Indian life insurance.
In the previous part we gave a brief overview of the industry, the growth drivers and the problem faced. We also touched upon the policy support by the government. In this part we will be talking about the recent changes in the industry, what is the possible way ahead and ultimately what is the overall take on this industry.
The Recent Trajectory and the Status Quo –
The last year proved to be one of the toughest for the auto industry with the continuously falling sales and piling stock of inventory. The industry grew at a healthy rate of 14% YoY in terms of volume in 2017-18. But the next year saw only single digit growth in the initial months with experiencing a drop in the sales volume as the year drew to a close. The situation deteriorated in April-July 2019 with the sales plunging 14%.
The reason for the downturn in late 2018 included increasing fuel prices, reducing rural sales due to bad monsoon and low farm prices. The impact on the rural sector slowed car and two wheeler sales and the commercial segment was impacted by the quicker turnaround times because of GST and also significantly by the change in axle load norms which allowed trucks, etc. to carry higher loads and increase their freight capacity by 20-25 percent, thereby reducing the demand for new trucks in the market. Liquidity crunch in the market post the NBFC crisis also left a huge impact on the sales figures. The impact can be assessed by the fact that about 60% of commercial vehicle sales. 70% of two-wheeler sales, and 30% of car sales are financed by NBFCs. Efforts like reduction in repo rate could not materialize into the benefits sought due to limited transmission of the rate cut to the public by banks. Adding to the misery was the rising insurance costs in the form of premiums on compulsory third party cover which was increased by the insurance regulator. Car and auto manufacturers have cut thousands of jobs and have shut down plants and halted production as the industry grapples with these challenges.
The sector saw a slight recovery in October with sales increasing as compared to last year. As per a survey by FADA, at the end of October, the inventory of vehicles in different segments has come down at dealerships. This is a bright spot as it comes at a time when the industry has been witnessing a slump for months and the nearly all manufacturers are showing falling sales. However, it should be kept in mind that the rebound came as there were two festivals Navratri and Diwali during the month this year as compared to only Navratri in last year’s October. And the fact that it was supported by hefty discounts offered by vehicle manufacturers who are desperate to sell the inventory, makes it harder to take the improvement as sustainable.
With the BS-VI norms being implemented from 1st April, 2020, there is a slight pre-buying expected in FY 2020 as consumers may get tempted by the discounts which the manufacturers would be offering to sell their old inventory. Post the implementation, there is an expected significant hike in ownership costs due to the more expensive new standard-compliant engine. This is going to dampen the demand of vehicles in the economy.
In terms of long run, with the falling prices of batteries and increasing push and supportive policies from the government, electrification is going to significantly pick up the pace. As per the industry experts, people carriers like buses, two-wheeler, luxury passenger vehicles and light commercial vehicles could experience the highest penetration by 2030.
In the coming time, the penetration of shared mobility in India is going to increase and while it is not at the same level as it is in developed nations, a significant change is under way in some parts of the countries where shared mobility is economically viable and this trend is also spreading to other parts of the country too.
Along with this, Connected Vehicles are almost certain to become the norm in future as the mass adoption of smartphones, combined with low cost of internet could enable this trend to proliferate. With this, there will be some additional protocols and guidelines which will be introduced centering around data security and cyber-threats. Additionally, it will also lead to impacts on other players in the system like insurers, telecom and tech companies.
How GST can make a difference?
A Structure for GST Cess, Suggested in National Auto Policy 2018
One of the interest frameworks for GST Cess suggested in the National Auto Policy 2018, is the matrix shown above. What they suggested was that we can divide the passenger vehicles into two segments i.e. length greater than 4 meters and less than 4 meters. The next was the CO2 (g/km) the initial bifurcation was set at 155 (g/km) which will decrease over the years. What is unique about this structure is that it tackles the two problems that the passenger vehicle transportation faces i.e. The Congestion and The Pollution level. With the help of this, vehicle which contributes to any of these or both of these will be taxed more than those who don't.
Keeping in mind all the potential hurdles and the change which are going to be implemented soon, it can be said that the times ahead are going to be turbulent for the industry. But with support from the government policies along with the burgeoning middle class, these changes can be very well managed. Also, it can be safe to say that things like electrification of vehicles, shared mobility and connected cars are going to gain even more momentum in the times ahead, and hence the various players in the system should be attentive, agile and quick on their feet to drive this change rather than being driven by it.
REFERENCES: CRISIL, Sector Report by Mckinsey and PWC, IBEF Report, Economic Times, Live Mint, Forbes India, The Hindu Business Line, Seeking Alpha