India’s Growth Quickens Most in Two Years in Boost for Modi

India’s economic growth accelerated to the fastest pace in more than two years, beating estimates, after the central bank refrained from raising interest rates.

Gross domestic product rose 5.7 percent in the three months ended June from a year earlier, the biggest gain since the quarter through March 2012 and compared with the 4.6 percent in the previous quarter, the Central Statistical Office said in a statement in New Delhi yesterday. The median of 48 estimates in a Bloomberg News survey was for a 5.5 percent gain.

Stronger growth is crucial for Prime Minister Narendra Modi to honor a pledge of narrowing the budget deficit to a seven-year low, after keeping subsidies largely unchanged in his spending plan. He faces the challenge of rejuvenating Asia’s third-largest economy amid the risk that a weak monsoon will hurt crops and stoke the region’s fastest inflation.

“There’s no doubt that this is the start of a recovery,” said Prasanna Ananthasubramanian, chief economist at Mumbai-based ICICI Securities Primary Dealership. “A closer look reveals it is propped up by government spending. For sustained growth, it is crucial to get right the mix of industrial growth and its lagged impact on services.”

The S&P BSE Sensex index gained 0.3 percent in Mumbai on Aug. 28, the rupee weakened 0.1 percent to 60.5150 per dollar and the yield on the 10-year sovereign bond was little changed at 8.56 percent. Indian markets were shut yesterday for a holiday.

“In the first quarter of this year, a 5.7 percent growth rate is encouraging,” Finance Minister Arun Jaitley said at a news conference in New Delhi today. “With the long-term impact of all the new initiatives setting in, I’m sure the impact in the coming quarters will be much larger.”

He said most economic sectors are looking up and the investors’ mood has undergone “a sea change.”

Asset Creation

Output from the finance and insurance industries jumped 10.4 percent in the quarter, while electricity and gas output increased 10.2 percent, according to the statement from the CSO. Manufacturing rose 3.5 percent while farm output climbed 3.8 percent. Mining grew 2.1 percent.

Gross fixed capital formation, a gauge of asset creation and investment, rose 7 percent. Government spending increased 8.8 percent.

“The increase in fixed capital shows a boost in investment on the back of a stable government,” said Rupa Rege Nitsure, Mumbai-based chief economist at state-owned Bank of Baroda. “This seems to be the start of a gradual recovery and augurs well for the future.”

The currency has pared this year’s gains after Finance Minister Arun Jaitley refrained from cutting subsidies and expenditure in his first budget. He’s instead banking on a boost in tax revenues to bridge the fiscal shortfall.

Modi Setbacks

Since taking office with the strongest electoral mandate in 30 years, Modi has blocked a breakthrough deal at the World Trade Organization, refrained from allowing foreign companies to take majority stakes in the defense sector and retained a retroactive tax law that has entangled Vodafone Group Plc in a $2.4 billion dispute.

During a parliamentary session that ended this month, opposition lawmakers scuppered Modi’s attempt to revive a bill proposing more foreign investment in insurance. The setback robbed Modi of an opportunity to lure investors during a visit to the U.S. in September.

The government will need to take steps to mobilize tax revenues and impose strict fiscal discipline to achieve its goal of narrowing the budget deficit to 4.1 percent of GDP from 4.5 percent a year earlier, the Reserve Bank of India said on Aug. 21. Risks to a growth forecast of 5.5 percent in the year through March 2015 are broadly balanced now after being to the downside at the start of the period, it said.

Monsoon Impact

Governor Raghuram Rajan left the benchmark repurchase rate at 8 percent for a third straight meeting and on Aug. 5 flagged upside risks to the RBI’s target of lowering inflation to 6 percent by January 2016, citing the government’s price support for crops, deficient rainfall and oil prices amid global conflicts.

Consumer prices rose 7.96 percent in July from a year earlier, the fastest pace since May, government data show. India’s monsoon rainfall has been 18 percent below normal since June 1, the weather department said on Aug. 27, heading for the driest year since 2009.

Any upswing in inflation due to erratic rains will be temporary and price pressures are likely to ease, according to Arvind Virmani, an RBI adviser. The economy will expand as much as 5.9 percent this fiscal year, faster than the previous period’s 4.7 percent that was near the slowest in a decade, the finance ministry projected this month.

“We aren’t saying this is a broad based pickup, but things do seem to be bottoming out,” said Devika Mehndiratta, an economist with Australia & New Zealand Banking Group Ltd. in Singapore. “Overall, things seem to be turning and things are in place for growth to move up to over 6.5 percent in 2016.”

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