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The economy is recovering but volatile oil prices and rising NPAs could throw a spanner in the works

The primary indicator of the state of the economy in a developing country like India is the gross domestic product (GDP) growth rate.

The government recently released data for the January – March quarter (Q4), and India’s GDP growth rate now stands at 7.7 percent. This is the highest in the last seven quarters. It has consistently shown an upward rise since the last three quarters. It also now makes India the fastest growing economy.

This sort of recovery is referred to as a 'V-shaped' recovery in economic terms, where the economy bounces back quickly and strongly after a period of sharp decline.


chart 1

The decline in growth before this has been largely attributed to the policy measures of the government like demonetisation and the implementation of the Goods and Services Tax (GST).

However, the period of decline in growth is not necessarily indicative of the health of the economy in this instance. Instead this has resulted into more formalisation of the  economy, which is going to yield long term benefits for the economy.

For instance, after demonetisation, 9.1 million new tax payers were added. This has resulted into a significant expansion of the tax payer base of India, which has been abysmally low since a long time.

In order to gauge this effect, an examination of PAN allotment data is in order. Data for PAN allotment for financial year 2014-15, is not available on the website of the Income Tax Department. However, data for fiscal 2013-14, 2016-17 and subsequent dates is available.

chart 2

The data clearly shows that there was a huge spike in PAN allotment in FY 2016-17, from where it has still seen upward growth. This is a sufficient indicator that the Indian economy is getting formalised. The intervening period saw the  implementation of demonetisation and GST. This is where we can draw the causal link between execution of demonetisation and GST and increase in PAN allotments.

The other significant positive development in the Indian economy that can be seen, when economic growth declined, was the increase in collection of direct taxes both in volume and percentage terms.

Direct taxes forming a large chunk of any economy is considered to be a positive aspect of the same because direct taxes are levied on an individual basis, considering the financial status of the tax payer. Indirect taxes, on the other hand, fail on this count because they are paid at the same rate by everyone.


chart 3

The blue line shows the percentage change of direct tax collections, year wise. Whereas, the orange bars indicate the direct tax collections in absolute terms. As is clearly seen, the declining trend of growth reversed in FY 2016-17 at 14.5 percent and further increased to almost 18 percent in FY 2017-18.


chart 4

A sharp increase is also seen in 2002, which is sustained till 2008, when it slumped, probably due to declining profits of corporates owing to the 2008 financial crises. However, achieving a growth of 14.5 percent and 18 percent in FY 2016 and 2017 respectively, is much more tough than achieving a 39 percent growth in 2006-07. Simply because the volume of taxes is too high, making it almost impossible to clock this kind of growth. For instance, achieving an 18 percent growth on 8.5 lakh crore is much more difficult than achieving a 39 percent growth on 1.65 lakh crore.

Therefore, the economy did well on the count of formalisation of economy and tax collection, when its growth declined because of the measures it took to bring about the formalisation. Such formalisation resulted in an increase in both, the numbers of tax payers and the total volume of taxes.

The other important indicator of the health of a globalised market driven economy is the investment it is receiving. On this count it is relevant that we take a look at foreign direct investments (FDI) that India has been receiving over the years.

chart 5

As is clearly seen, the FDI inflow into India is on the upward trend, even though the growth may have slightly tapered off at 11.12 percent, which is still significant. In terms of volume, India is largely receiving the highest volume of FDI it has ever received. The fiscal 2016-17 data is still provisional and the final figure can be different from the figure available right now.

Hence, the Indian economy is showing all the signs of a complete healthy recovery, with a V-shaped recovery in the GDP growth rate, and an increase in investments. Moreover, the increase in the number of taxpayers and direct tax collections will have long term beneficial effects for the economy.

Optimism aside, the economy now needs to tackle the pressure of rising global crude oil prices. Moreover, the NPA crises is still a looming problem, even as it has started showing signs of resolution via the new process enunciated in the Insolvency and Bankruptcy Code (IBC).

Therefore, even in the face of optimism, policy makers need to tread with caution, especially because the performance of the Indian economy is also linked to developments globally.

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