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A gradual recovery in IIP or is it just the base effect?
* Nov'19 IIP growth of 1.8% yoy - positive growth after three months of declines - partly reflects the skewed contribution from MS slabs and partly the lower base of 0.2% growth.
* Skewness in IIP: Although MS slabs continued to be a significant contributor to IIP, excluding it, IIP grew by a mere 0.5%. Only 43% of the manufacturing sectors reported declines in this month, which is a 7-month low, and was largely driven by a lower base. All use-based sectors, except for intermediate and consumer non-durables, reported declines. Overall, we believe that the skewness in IIP performance in Nov'19 was relatively moderate.
* Mixed signals for December: We expect December growth to remain mildly positive, based on an improvement in the PMI and lower decline in electricity generation. However, continued lower industry credit growth of 2.4% and a decline in auto production are likely to hinge upon growth. Overall, industry sector growth in Q3FY20 looks ~1.0%, a small improvement over 0.5% in Q2FY20.
* Monetary policy implications: The RBI would remain cautious and is at the end of the rate cut cycle with inflation hovering above 5.5%.
Relatively broad-based growth in IIP
Growth in IIP in Nov’19 was relatively broad based and was sharper on a seasonally adjusted basis. 12-month moving IIP reported 1.0% growth yoy, a slight improvement from the previous month, but still lower than that of the Demonetization year (Nov’16-Oct’17). Moving forward with a relatively lower base into Q4FY20, we expect IIP to look a tad better. December PMI signals a marked improvement, especially coming from new orders in the consumer sector. MS slabs continued to skew IIP growth, recording 151.1% growth yoy. Excluding this, IIP would have grown by 0.5%. About 74% of the manufacturing sectors reported sub-5% growth.
Consumption and investment activity worsens further
All use-based sectors, except for intermediate and consumer non-durables, reported declines. Intermediate goods grew 17.1% yoy, primarily contributed by MS slabs, fragrances and steel pipes. Consumer non-durables grew 2.0% yoy despite a decline in the food products category. This is likely to show some improvement with the likelihood of bumper Rabi harvest (Rabi sowing so far has grown by 6.8% yoy). The weakness in consumer durables and capital goods continued, mainly contributed by the declines in motor vehicles (by 12.6%) and machinery (4.0%). Capital goods declined 8.6%, largely driven by the decline in commercial vehicles, harvesters and printing machinery. Spending by state governments toward capital has declined by ~3% yoy, which is likely to continue to pull down the overall capital goods growth. The decline in auto production and auto spare parts has impacted consumer durables production (-1.5% yoy in Nov’19). This is also reflected in lower auto loans, which grew 4.7% yoy in Nov’19 from a peak of 12.7% in Aug’18. Infrastructure and construction goods declined 3.5% yoy, mainly driven by the decline in steel structural and bars and rods of alloy steel.
Outlook: Output gap appears to have remained widened in Q3
Overall production picture continues to remain bleak. However, on growth basis, there would be some mild improvement due to the base effect. In addition, promises of bumper crop in Rabi are suggesting that food-related industries might show some improvement in production. However, lower strained spending by the center and the states suggest a bleak picture on the growth front. A lot of forbearing of domestic growth lies on an improvement in global trade. We believe that in the absence of it, growth recovery is likely to be really gradual. Further, strong reforms in real estate/construction are required for the rural economy to show a structural recovery, in our view.
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