Indian Government To Continue Improving Business Environment
The Indian government led by the Bharatiya Janata Party has initiated various reforms in its first two years in office, and it will continue to enact incremental rather than big bang reforms over the coming years. That said, the lack of majority in the Rajya Sabha, India's 245-seat upper house, will remain a hurdle to the implementation of large-scale reforms. State elections, which will continue to take place over the coming years, will determine whether the BJP will attain an upper house majority.
We remain broadly constructive on the Indian economy, and it will become the fastest growing major economy in Asia owing to the government's pro-business initiatives and accommodative monetary policy by the central bank. We expect the country's manufacturing and services sectors to continue to perform strongly. However, weakening agricultural growth and slowing reform momentum, notably in the infrastructure sector, will weigh on overall economic growth, and we maintain our FY2015/16 (April-March) and FY2016/17 real GDP growth forecast of 7.3% and 7.2%, respectively.
The Reserve Bank of India (RBI) reduced its repurchase (repo) rate by 25bps to 6.50% at its April 5 monetary policy meeting, and we forecast the central bank will cut its benchmark policy rate by an additional 25bps to 6.25% by the end of FY2016/17 in a bid to provide continued support to the economy. The RBI remained dovish, and will continue to seek to improve the transmission mechanism. Subdued inflation in FY2016/17 will provide sufficient room for a reduction in the repo rate.
The Indian government delivered its FY2016/17 (April-March) union budget on February 29, sticking to its fiscal deficit targets of 3.5% of GDP in FY2016/17 and 3.0% in FY2017/18, which we believe is positive for macro-stability. That said, we forecast the central government's fiscal deficit as a share of GDP to come in at 3.7% in FY2016/17, as headwinds to revenue expansion and expenditure reduction are likely to persist.
The Indian rupee will depreciate gradually against the US dollar over the coming years, and we forecast the unit to average INR68.25/USD in 2016 and INR69.50/USD in 2017. The RBI will continue to allow the currency to weaken in order to keep the currency competitive against its regional peers. However, major rupee weakness is unlikely as continued economic growth and positive real interest rates will lend support to the currency.
Major Forecast Changes
We revised our FY2015/16 (April-March) and FY2016/17 current account forecast to a deficit equivalent to 1.0% of GDP and 0.0%, respectively (from 1.5% and 1.4% previously) as India's external accounts will benefit from still weak global oil prices.
Upside Risks To Inflation: While we maintain our expectations for the RBI to cut rates in a bid to reignite credit growth and investment, we note that the potential of elevated levels of inflation could force the central bank to hike rates as it did in late 2013, which will not only pose upside risks to our policy rate forecasts, but also downside risks to real GDP growth. Moreover, should the Bharatiya Janata Party (BJP)-led government fail to gather the support it needs to implement fiscal cutbacks in order to maintain the deficit close to the level in FY2015/16, the elevated levels of fiscal spending will certainly present another source of upside pressure to prices.
Downside Risks To Growth: The ongoing reform drive in India will be a key driver of the country's economic recovery. High levels of bureaucracy, combined with vested interests and significant levels of legislative autonomy for state governments, mean that Prime Minister Narendra Modi could struggle to implement key reforms. A lack of progress in these key reforms could weigh on India's growth trajectory.
|e/f=BMI estimate/forecast. Source: National Sources, BMI|
|Nominal GDP, USDbn||2,046.1||2,113.6||2,229.5||2,437.6|
|Real GDP growth, % y-o-y||7.2||7.3||7.2||6.8|
|Consumer price inflation, % y-o-y, eop||5.3||5.8||4.8||4.8|
|Exchange rate INR/USD, eop||63.04||66.15||69.00||70.00|
|Budget balance, % of GDP||-6.9||-6.8||-6.6||-6.0|
|Current account balance, % of GDP||-1.3||-1.0||0.0||-0.2|
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