The Economy

The EconomyGrowth in 2005/06

The quarterly estimates of GDP released by the Central Statistical Organisation (CSO) at the end of November 2005, indicated that growth in the first half (April to September) had averaged 8.1 per cent, compared to 7.1 per cent in the corresponding period of the previous year. However, revised growth of manufacturing output in the second quarter (July-Sept) at 7.7 per cent is quite a bit lower than the 9.2 per cent that was ascribed to manufacturing GDP growth in that quarter. It is thus possible that second quarter growth may be scaled down a bit (unless upward revision affects other sectors). Indicators of growth in the third (Oct-Dec) quarter tend to indicate that the pace of expansion may be somewhat less than that experienced in the first (April-June) quarter. Thus, overall it is likely that growth for the completed fiscal year of 2005/06 may be in the region of 7.7 per cent—as indicated at Table 1.1. The growth of the non-agricultural sector—industry and services—is likely to cross 9 per cent this year, which would signal the continuation of a strong, consistent and slightly accelerating tendency. Table 1.1

Sectoral annual growth rates in the decade post-reform

Unit: per cent

Year ending March 31	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004	2005	2006*

GDP at factor cost	5.9	7.3	7.4	7.8	4.8	6.6	6.0	4.4	5.8	4.0	8.5	6.9	7.7
Agriculture & allied activities	4.1	5.0	−0.9	9.6	−2.4	7.1	0.5	−1.4	6.8	−7.2	9.6	1.1	2.0
Non-agriculture	6.7	8.5	10.9	7.1	7.6	6.4	8.1	6.3	5.5	7.5	8.2	8.5	9.2
Of which: Industry	5.2	10.2	11.7	7.0	4.3	3.4	5.3	6.5	3.3	6.8	6.6	7.7	7.8
Services	7.7	7.1	10.4	7.2	9.8	8.2	9.7	6.2	6.6	7.9	9.1	8.9	9.9
Memo items
Manufacturing—registered & unregistered	8.5	12.0	14.9	9.7	1.5	2.5	4.4	7.1	3.7	6.5	6.9	9.2	9.4
Trade, hotels, transport, & communication	7.1	10.4	13.3	7.8	7.7	7.1	8.3	7.8	8.6	10.1	11.8	11.4	11.8
Finance, insurance, real estate & business services	13.4	5.6	8.2	7.0	11.6	8.4	9.6	3.5	4.5	8.7	7.1	7.1	9.3
Community, social & personal services	3.5	3.2	7.9	6.3	11.7	9.9	12.1	6.1	5.3	3.3	5.8	5.9	6.5

Note: *Estimated.
Source: Data for all quarters from Central Statistical Organisation (CSO).

The rate of growth for the previous fourteen quarters, at the aggregate and sectoral levels, including an estimate for the fourth quarter of 2004–05, is provided at Table 1.2. As mentioned earlier, it is possible that the provisional growth rate for Q2 of the current fiscal year may see some downward revision. Table 1.2

Sectoral quarterly growth rates-year-on-year basis

Unit: per cent

	2002–03				2003–04				2004–05				2005–06

	Q1	Q2	Q3	Q4	Q1	Q2	Q3	Q4	Q1	Q2	Q3	Q4	Q1	Q2

GDP at factor cost	5.2	5.6	1.8	3.7	5.5	8.8	11.0	8.5	7.6	6.7	6.4	7.0	8.1	8.0
Agri. & allied activities	−1.2	−4.7	−12.1	−6.3	0.1	7.2	18.2	8.2	3.8	0.0	−0.5	1.8	2.0	2.0
Non-agriculture	7.2	8.2	7.4	6.7	7.1	9.2	8.6	8.5	8.6	8.1	8.9	8.4	9.8	9.2
Of which: Industry	5.5	7.5	7.1	6.4	5.8	6.3	6.3	8.3	7.1	8.3	8.9	6.7	9.7	7.5
Services	8.1	8.6	7.5	6.9	7.8	10.7	9.9	8.6	9.5	8.0	8.8	9.3	9.8	10.1
Memo items
Manufacturing-registered & unregistered	4.3	7.0	7.1	7.3	6.1	6.9	7.0	7.9	7.9	9.6	10.5	8.6	11.3	9.2
Trade, hotels, transport, & communication	9.5	10.5	9.4	7.7	8.0	10.4	13.6	18.1	11.5	12.2	10.8	11.1	12.4	12.0
Finance, insurance, real estate & business services	9.4	9.6	8.5	7.5	6.4	7.2	7.3	7.5	7.0	5.5	8.1	7.7	8.3	9.9
Community, social & personal services	4.1	4.1	3.2	5.1	9.0	14.9	5.2	−5.5	8.2	3.0	5.6	7.2	6.1	6.7

Source: CSO, Quarterly Estimate of Gross Domestic Product-Press Notes up to November 30, 2005.

The burden of unreformed systems on economic growth

The unhappy experience with the near-collapse of growth in the second half of the 1990s in India, has led to many observers both at home and overseas, to fear that the present run of growth (from mid-2002 onward) may be due for a deep breather. The reason for the scepticism is self-evident. Creation of a business environment in critical areas of infrastructure such as electric power, transportation, urban housing and amenities, has lagged far behind the intentions. As a result private investment has not yet been readily forthcoming and of course the capacity of the government sector to fill the obvious and huge infrastructure deficit is clearly limited. In addition, the fractious nature of the ruling political alliance, electoral imperatives and the inertia that characterises the administrative machinery has impeded progress towards a more efficient system which is conducive to investment and economic activity. While, much of the criticism is true—the cost of not making sufficient progress on these issues is likely to compromise both the level of growth and its sustainability over the medium term—rather than impacting the existing levels of short term growth.

It can be taken as a given, that if the infrastructure constraints had been non-existent or much milder, the economy would have been able to grow at a much faster pace—both on the domestic and international front. The current outcomes are the consequence of domestic energies and entrepreneurship running into, and being slowed down by, the swamp of inefficiency in infrastructure (and sometime regulatory) holdovers.

<sec id="sec005"><title>To illustrate

The cost of generating electricity in India averages Rs. 1.50 per unit. If reasonable costs of transmission and distribution are added, delivered power to a manufacturing unit should cost about Rs. 2.00–2.50 per unit. As against this, most units are paying up to Rs. 5 per unit to the grid or incurring the same order of cost (including capital) on captive diesel generating sets.

This is because of the inefficiencies of the system (theft, unaccounted losses) and public policy (free power to the farm sector) that have been sought to be offset by taxing industrial and commercial consumers—who pay their bills scrupulously that is, and are not tempted to dodge and duck courtesy of corrupt officials. In spite of this, Indian manufacturing is not out of business and has been able to compete internationally. Surely, in a more efficient system, Indian manufacturing would be doing a great deal better.

Revisiting the Nineties

It is worth reiterating what the factors and backdrop were, in which Indian industry and the economy at large, took a hard knock in the second half of the 1990s.

Background

Indian companies—both public and private sector—had lived pretty secluded lives till liberalisation, insulated from both international and domestic competition. The set of policies adopted in post-Independent India had the unintended consequence of creating conditions of perpetual shortage for manufactured goods and complete protection from import competition—through the combination of very high import duties and licensed physical control over imports. That of course meant that however shoddy the product, however incompetent the management of a company was, it had an assured market. Not that there were no units that failed, but the order of incompetence required to fail was enormous. For practical purposes, business risk was alien object in pre-liberalisation India.

The source of finance for asset creation and working capital was public sector banks and financial institutions—even more so following on the nationalisation of commercial banks—and the mission objective of these public financial institutions was “development”. In capitalism, if the mission objective is other than profit maximisation, debility is certain to follow—as it indeed did wherever such latitude was permitted in policy, and most spectacularly, of course, in Japan. The public financial system in India absorbed the financial risk inherent in business. If the business did badly, rehabilitation packages were routinely drawn up, and if they did well, expansion was generously funded from debt. High rates of personal and corporate taxation discouraged equity creation and encouraged avenues to dodge taxes—of which capital flight was fairly common, especially given the extent of the over-valuation of the rupee through much of the seventies and eighties. Companies were in consequence over-leveraged, fixed asset creation more costly than they should have been, and private businesses did not need to understand financial risk, since the structure of things ensured that effectively most of it was always transferred to government owned financial institutions.

The post-1991 investment boom

Immediately following on liberalisation in 1991, Indian private sector companies tried to get into every line of business that the earlier licence regime had locked them out of, as well as to expand the lines of businesses that they were already in. There was a sheaf of new investments in metals, manmade fibre, cement, chemicals—the entire gamut of what are today termed industrial commodities. In addition there was a scramble to get into new areas such as telecommunications.

The investment style was however the same as before—habits do not change readily, and without shock therapy, never. So the expansion was largely debt funded and capital configuration done the same old way—careless and perhaps gold-plated; green-field projects, big talk, large debts at interest rates of up to 20 per cent per annum of short to medium term duration, thoughtless structuring (for instance in convertible bonds, betting that investors would choose the conversion option, notwithstanding common sense given the share price etc.). Expected prices of finished products were viewed in the eyesight perfected in the vision of the seventies and eighties—perennially beneficent short supply and high prices.

The investment boom that travelled this particular rail car was of course bound to go off the rails—and it did. But there were several external factors that made things quite a bit worse.

Declining commodity prices

Through the nineties, prices of industrial commodities—from steel to zinc to coal to PSF to urea—were falling. The first factor—and perhaps the more immediate one—was the collapse of the former Soviet Union. The erstwhile state-owned enterprises needed something to do to stay open and keep their employees alive. With the entire manufacturing sector in the former Soviet Union (FSU), the cost of production was almost entirely the cost of labour. Businesses based in the West began to make cash (dollar) advances to these enterprises against delivery of goods at FSU ocean ports—and prices fell, and then fell further. The second factor—and one that had enormous long-term effects—was the emergence of China as a global centre of manufacture and the chemicals business largely migrating there and to Taiwan and South Korea.

Thus, as the new investments planted in the post-1991 era of liberalisation were coming on stream, their international prices were plummeting, and this was, of course, impacting domestic prices. Then came the Asian currency crisis in 1997 and it basically took out what oxygen was left in the global commodity market.

Process of consolidation and recovery

Almost all Indian manufacturing companies found the situation extremely sticky—caught between unanticipated market conditions and the obligations of debt servicing. Many companies defaulted to public financial institutions and even to private investors in the domestic and overseas capital market. Others had to make great efforts to avoid doing so.

The terrible experience brought many lessons sharply to the forefront. Look at business risk carefully; managing financial risk is vital in order to exist; capital configuration must be directed to finding the cheapest possible way to expand productive capacity.

Beginning 1997, Indian private corporate business entered into a period of unprecedented consolidation. Cottoning onto the obvious lesson—that revenue-earning assets (that is, existing plants) were the most cost-effective method of expansion, followed by brown-field investment—companies entered the mergers & acquisitions (M & A) arena with great energy. Over the next several years, corporate India consolidated in a manner that they might never have dreamt of before.

In the immediate aftermath of the Asian currency crisis, there was pressure from business, and government did increase the effective rates of import duty.... Notwithstanding these, the overall legacy of the crisis was an enormous maturation of Indian manufacturing businesses: A true coming of age.

In the immediate aftermath of the Asian currency crisis, there was pressure from business, and government did increase the effective rates of import duty on a host of commodities—with many intermediate items attracting the peak rate. There was a spurt of anti-dumping duties inspired by cheap imports from China. Notwithstanding these immediate reactions, the overall legacy of the crisis of low output prices and financial jeopardy was an enormous maturation of Indian manufacturing businesses: A true coming of age.

On the financial front, companies slowly proceeded to strengthen their balance sheets. The decline in interest rates during this period—partly on account of the general economic slowdown at home and partly due to the unprecedented easy money conditions that followed 9/11—helped companies pay off debt and lower the degree of financial leverage. On the business front, companies focused harder on their core strengths, seized on every potential to raise cost efficiency; many ventured out to China and other parts of the world and found that they were in a position to compete outright in those markets. A spate of acquisitions in overseas market began—and the process continues.

Other pertinent developments

It is not incorrect to argue that the healthy pace of growth today, is due to expansion of domestic consumer demand lubricated by ready credit, nor will it be incorrect if one were to see in the export of goods and services an agency of growth; or for that matter if one were to ascribe today's growth to the deepening of the urban phenomenon or the success in aligning agriculture more closely to commercial markets in parts of the country. These and similar explanations are true in themselves, but the totality of the story is more complex and much of it has to do with the success of reform, successes that have allowed the present to materialise.

There are three elements that were born after the process of reform in the early 1990s, which have critically shaped the present outcome. First, is the reform of Indian capitalism—delineated above; second, the reform of the financial system, particularly of banking; third, is the containment of government finance from going over the cliff. There are other powerful elements that predate reforms—in particular the strength of household balance sheets (low on debt, high on savings), improvement in education and the gradual societal modernisation that had been sought to be accelerated in the decades after Independence.

Invasive controls, much of which originated in the emergency rules issued during the two world wars, had hitched a ride in the post-Independence era on the bus of good intentions. To be fair, price and quantitative control, mostly born out of the contingency of the world war, was quite the norm in that period—not only in the Socialist Bloc, but also in Western Europe and even to a smaller extent in North America. The outcome of industrial licensing and state control over the institutions of credit successfully ossified Indian capitalism, amongst, of course, many other outcomes. So, if you were to go back to 1947 and list out the top 20 business houses and then fast forward to 1991, one would find little that had changed, barring for the rise of Reliance. Not even the inter se hierarchy of the houses constituting the list altered. If we now move on to 2005, or even 2001, there is a sea change. Barring the Tatas, Birlas and a few others, the leading Indian business groups of today comprise comparative newcomers—Infosys, Wipro, Bharti, the bevy of pharmaceutical companies and many others that have become household names. In the process, Indian business has changed in a very fundamental manner, a development that has come with considerable pain—and it has been all for the good.

The reform of the Indian banking system over the past one-and-a-half decades piloted by the Reserve Bank of India and Government has perhaps been one of the most lasting successes of the reform period. From a situation in 1992, where risk management and prudential norms were strangers to the system, the banking business has been progressively brought to a point where the banks are comfortably solvent under standards conforming to international practice and all that with very little budgetary support from the government. The equity markets have also undergone radical change, and today, Indian exchanges operate to standards that can compare with the best in the world.

Drivers of growth

Companiesare careful—some might say too careful—about creating additional capacity; and that factor has kept the pace of investment demand relatively modest, despite the fairly sharp pick-up in output growth and consumer demand. CHART 1 Expansion of Manufacturing Output

Unlike the first half of the nineties, it is not investment that is fuelling today's economic growth, but mostly consumer demand—for durable and non-durable consumer goods and for homes. The ready availability of consumer credit (including home loans), and the changing nature of India's younger consumers, have facilitated this surge in consumer demand. Without the deep-rooted reform of the Indian banking system beginning 1992, the present expansion in consumer credit would not have been possible. Companies are careful—some might say too careful—about creating additional capacity; and that factor has kept the pace of investment demand relatively modest, despite the fairly sharp pick-up in output growth and consumer demand. CHART 1Expansion of Manufacturing Output

Factors suggesting that the present phase of growth is here to stay

None of the factors that led to de-stabilisation of growth in the nineties is present today. On the contrary, Indian capitalism—private businesses, public sector companies and banks—has had a deep-immersion accelerated education in surviving in a competitive and globally unified world. In addition, the fractious state of public finance that had seen the combined fiscal deficit (of Centre and State combined) cross 10 per cent of GDP, has come down significantly and political will has crystallised behind the process of fiscal consolidation as exemplified by the Fiscal Responsibility and Budget Management legislation in the Centre and in the States. Indicators of macro-economic stability—whether it is domestic prices or exchange rate—appear veering on the side of stability. The only element of possible concern is the Current Account Deficit (CAD) which for the first half of the year is reported to be in the region of 3 per cent of GDP. But this subject, we will deal with later.

Outlook for 2006/07

The current phase of industrial output expansion that began in July 2002 has completed 41 months in November 2005. This is the longest expansionary phase—longer than the first phase of post-liberalisation manufacturing output expansion between July 1993 and October 1996 (40 months).

The current phase (Chart 1) of industrial output expansion that began in July 2002 has completed 41 months in November 2005. This is the longest expansionary phase—longer than the first phase of post-liberalisation manufacturing output expansion between July 1993 and October 1996 (40 months)—although the extent of output increase was sharper in the first phase, aggregating 42 per cent (about 11 per cent per annum), while that in the second phase is till date lower at 34 per cent (which translates to about 8.8 per cent annually). One must submit that the quality of the expansion in the second phase must be considered to be better, considering the much lower levels of available protection from imports and the greater financial prudence in evidence both amongst lenders (corporates) and financiers (banks and capital markets).

Growth of merchandise exports has, as expected, been softer than in the comparable period of the previous year. Thus, for the period April-November 2005/06, exports grew by 17.7 per cent, while in the same period of last year the year-on-year rate of growth had been 31.3 per cent. Import growth has also slowed, but by a much smaller extent—to 30.7 per cent this year, compared to 37.0 per cent last year. However, even at 18 per cent the impetus to domestic manufacturing is not inconsiderable, with the value of manufacturing exports having increased by 16.6 per cent (in rupee terms) during the first half of 2005/06.

There is good reason to believe that even if slower export growth were to adversely impact aggregate demand, it would be offset by increases in investment—both in augmenting manufacturing capacity and infrastructure. Further to the extent that infrastructure deficits are supply constraining and erode competitiveness, there ought to be additional gains in the medium term from such investments.

Thus, while one does not expect a slowdown, it is not unreasonable to expect a moderation in the pace of expansion. Accordingly, for 2006/07, we have factored in manufacturing growth of 8 per cent, assuming some investment in new manufacturing capacity and infrastructure. There continue to be constraints in mining and power generation, although the restoration of the accident damaged Bombay High oil platform of ONGC should result in significant upsides in crude oil (and hence mining) output.

Assuming normal rainfall, this gives us a projected growth slightly in excess of 7 per cent for 2006/07, with potential upsides from a more rapid pace of investment in infrastructure.

World Crude Oil Prices

Over the past six months, benchmark crude prices have hovered around $55–65 per barrel (/bbl). Unlike in the first half of 2005, when on the occasional day, prices did drop below the $50-mark, second half prices were firmer averaging $62/bbl for Nymex sweet, compared to $52/bbl in the first half. OPEC seven-crude basket and the Dubai-Oman sour have also ruled in the mid-$50s to the high-$50s/bbl.

High crude prices reflected the strength of demand across the world, particularly in China and to a lesser extent, India. While, on the supply side, spare capacity continues to be small, given that Iraqi crude is yet to flow in any sizeable quantity. Crude oil prices, beginning March 2002 for spot Nymex (New York Mercantile Exchange) are plotted at Chart 2.1CHART 2.1Crude Prices—Nymex US$ per barrelDaily prices for one-month deliveries (spot) from March 2002 to mid-January 2006

Generally, future prices are lower than spot, especially when prices are at relatively high levels. However, ever since the second half of 2004, it has been the oppositewith future prices persistently staying above spot prices, despite the relatively high level of spot prices.

Oil market dynamics are complicated by crude oil futures being an attractive object of investment. Market expectations are reflected in forward prices consistently ruling well over spot prices. This is known in the parlance as a contango market. Generally, future prices are lower than spot, especially when prices are at relatively high levels. That is, the market expects supply to respond to elevated prices (or demand to weaken), thereby bringing about a reduction in market clearing prices. However, ever since the second half of 2004, it has been the opposite with future prices persistently staying above spot prices, despite the relatively high level of spot prices. This was reflective of the perception that demand was strong (even at these prices) and the supply side was very tight indeed. These are the pre-conditions that make the OPEC cartel work most smoothly.

At Chart 2.2, the difference between the spot and 4-month forward price for Nymex crude has been plotted. The area above the X-axis, that is where there is a premium in future prices reflects the contango market. The area below the X-axis where future prices are at a discount over spot is the “normal” market. CHART 2.2Difference between Spot and 4-month Future Contract Price for Nymex

Normally future prices have approached or exceeded the spot prices at times only when the spot price was at very low levels. Thus between July 1997 and February 1998 when international crude oil prices fell to below $ 15/bbl, future prices were higher, as markets expected an end to the Asian currency (and other) crises and a return to normalcy. In the months that followed the September 11, 2001 terror attacks on the USA, crude oil prices plummeted and future prices went above spot, once again since markets expected a return to normalcy.

As crude oil prices rose through 2003 and most of 2004, the spot-future price structure remained normal with future prices at a discount, reflecting expectations of a correction, that is, a softening in spot prices. However, by November 2004, future prices began to stay ahead of spot (as spot weakened for some time) and continued ahead, even as spot started rising. The only interpretation that informed market players are confident of, is that basic demand and supply situation will ensure the maintenance of high prices for some time to come. At Chart 2.3, we have plotted the discount/premium between spot and future prices since the beginning of 1997, with the spot price on the left-hand scale (LHS) and the premium/discount on the right hand scale (RHS). As is evident in periods when spot prices fell to historical lows there was a forward premium and vice versa. Except for the past six months, when despite very high spot prices, the future prices remain to be at a premium. CHART 2.3Spot and Future Premium/Discount for Nymex—from January 1997 onwardsUnit: US$ per barrel

In recent months, the magnitude of the premium has declined and this is likely signalling that market expectations perhaps see that crude prices are stabilising at something over $60/bbl—that is, from the demand side. Supply side shocks are still quite possible.

However, in recent months, the magnitude of the premium has declined (see Charts 2.2 & 2.3) and this is likely signalling that market expectations perhaps see that crude prices are stabilising at something over $60/bbl—that is, from the demand side. Supply side shocks are still quite possible—given the overall tightness that continues and is likely to continue for some time. These supply side shocks could come from global political tension, local insurgent conditions and natural disaster. To illustrate, the first could be an outcome over Iran's bid to acquire nuclear weapons while yet formally continuing to be a signatory of NPT (Nuclear Non-Proliferation Treaty), the second from armed clashes in the Niger Delta or in Central Asia between ethnic/political groups that are ranged against each other, while the third is the kind of thing that had happened in the aftermath of Hurricane Katrina in the US Gulf in August 2005.

Balance of Payments Position

Surging merchandise imports, both oil and non-oil, have brought about a reversal in the current account from a positive balance to a deficit. Since 2000–01 the current account was in surplus. The quantum increased in 2003–04 to $14.1 billion—amounting to a whopping 2.3 per cent of GDP.

However, in fiscal 2004–05, even as exports did quite well, a rapid increase in imports, combined with increasing crude oil prices, brought back a sizeable current account deficit (CAD) in the second and third quarters of 2004–05. For the full year, the current account balance was in deficit of $5.4 billon or −0.80 per cent of GDP.

In 2005–06, the CAD has continued to mount. In the first half it aggregated $13 billion, which is equivalent to 3.2% of expected GDP for the year. This is certainly a large number and well beyond the 2% level that is conventionally considered to be sustainable for the CAD.

In the current year 2005–06, the CAD has continued to mount. In the first half it aggregated $13 billion, which is equivalent to 3.2 per cent of expected GDP for the year. This is certainly a large number and well beyond the 2 per cent level that is conventionally considered to be sustainable for the CAD (in the context of a growing developing economy). Capital flows were more than adequate to finance the CAD; indeed the overall BoP surplus for the first half of 2005–06 was $6.5 billion: that is, not only were they adequate to finance the large CAD, but they caused an addition (of $6.5 billion) to the foreign exchange reserves of the central bank as well.

However, there are questions that need answers. Normally, when a developing economy registers CAD of this magnitude there is cause for concern. On one hand are issues that relate to the level of expansion of domestic demand (and what might be causing it) and associated adjustment issues; on the other hand is the ability (or otherwise) of the economy to continue financing its CAD—which then has a bearing on its prospective ability to service external liabilities.

In the Indian context, the interpretation has been drawn that the large CAD is pointing to heightened levels of economic activity, read in two ways. The unsubtle one is that this must be unalloyed good news (heightened economic activity) and signifies higher rates of investment at an aggregate level.

The subtler argument is that the sharp increase in the CAD indicates that the economy is “over-heating”—that is, excess demand is running far too much ahead of the supply response, and though domestic prices may not be reflecting the excess demand (because of global supply effectuated by burgeoning imports), macro-economic policy must need to respond to this development. The expected response is at two levels. First, in order to curtail excess demand, an increase in interest rates, supplemented by a compression of the fiscal deficit; second, given that India has a managed float, a weakening of the currency. The latter is made more self-evident since the official data indicates that the rupee has strengthened in inflation-adjusted (i.e. in real) terms vis-a-vis major world currencies by 5–6 per cent.

There is not enough evidence to conclude that the higher level of CAD is indicative of higher investment demand or consumer demand or that it holds any particular message on the intensity of domestic economic activity.

The difficulty is that the facts do not quite match the presumptions that underlie the line of reasoning indicated above. First, there is not enough evidence to conclude that the higher level of CAD is indicative of higher investment demand or consumer demand or that it holds any particular message on the intensity of domestic economic activity. This is because, the trade data as we know it pertains to that released by the Director General of Commercial Intelligence & Statistics (DGCI&S).

Now, if we take the DGCI& S merchandise trade data and the net invisibles from the BoP, what we get is the following:

All figures in US$ billion	DGCI&S merchandise Trade Balance	Net Invisibles balance from BoP	First level Current Account Balance	Excess of BoP merchandise trade deficit over that of DGCI&S	Current Account Balance as reported in BoP

Apr–Sep 2005/06	−20.7	18.7	−2.1	10.9	−13.0
2004/05	−28.6	31.2	2.6	8.0	−5.4
2003/04	−14.3	27.8	13.5	−0.6	14.1

The difference between the DGCI& S and the BoP (reported by the RBI) merchandise trade deficit is primarily on account of import payments that fail to be captured by the DGCI& S. These comprise imports by government departments, including defence, lease payments for aircraft, off-shore oil rigs and other such vessels and advance payments. While in principle this is fairly straightforward, the problem arises because it is precisely the nature of these import payments that seems to be material.

Thus, without these items, the CAD for the first half of 2005–06 would have been a mere $2.1 billion (0.52 per cent of GDP on annualised basis), extremely modest by any standards. But on the BoP basis this transforms into $13 billion or 3.2 per cent of GDP—a completely different animal. In the absence of any information regarding the difference between the DGCI& S and BoP trade deficits (almost entirely due to differences in the value of imports), a few tentative conclusions can be made.

While some of the difference between the DGCI& S and BoP deficits could be on account of economic activities—such as lease payments for civilian aircraft and off-shore vessels—the bulk of the variation looks to be on account of non-economic agents—payments, including advance payments,¹ by the defence department. This makes a huge difference to how the CAD then has to be read. It is well-known that India's armed forces had fallen behind on their modernisation needs—to the extent that there were several incidents in recent years where air force aircraft literally fell out of the sky. Finalisation of contracts took a lot of time and it has only been in the last few years that overdue purchase agreements were finally sealed. In order to prevent budgetary appropriations by the defence department from lapsing due to non-utilisation, such grants were made non-lapsable.

¹ As for instance advance payments being made for the nuclear powered aircraft carrier Admiral Gorshkov, which is being fitted out for the Indian Navy in Vladivostok, reportedly at a cost of $1.5 billion. In 2004, it is reported India contracted for purchases of defence equipment amounting to $5.7 billion. The volume of contracted purchases between 1997 and 2004 was over $15 billion and it is conceivable that a significant part of the deliveries (and payments) began to materialise only in 2004–05 (US Congressional Research Service, August 2005).

Viewed in this light, the large values for the CAD, to the extent that they are due to payments for defence equipment, are mostly payments being made for accumulated requirements—and to that extent are a one-off. That is, they are not going to be permanent features of BoP imports for all times to come. And of course, then the contribution of civilian economic activity on the CAD is relatively modest and therefore does not constitute a basis for constructing an “over-heated” scenario.

At Table 2, is a summary of the BoP for the three half years— April-September 2004/05 and 2005/06 and October-March 2004/05. Notable are:

The sharp increase in the merchandise trade deficit over the three half-year periods;

The steady increase in the net surplus on invisibles;

The steady increase in the net positive balance on software and remittances;

The steady increase in foreign direct investment;

The big increase in portfolio capital inflows in the second half of 2004/05 and in the first half of 2005/06;

The large contribution of “other capital” in the second half of 2004/05 and in the first half of 2005/06.

Table 2

Principal Balance of Payments (BoP) Aggregates⁺ First & Second Half of 2004–05 and First Half of 2005–06

Unit: US $ million

	April–Sept 2004/05			Oct–Mar 2004/05			April–Sept 2005/06

	Credit	Debit	Net	Credit	Debit	Net	Credit	Debit	Net

Merchandise Trade	36,715	51,483	−14,768	45,435	67,296	−21,861	44,761	76,396	−31,635
Total Invisibles	34,343	17,060	17,283	40,511	23,565	16,946	47,831	29,152	18,679
of which:
Travel & Transportation	4,769	4,556	213	6,524	5,493	1,031	6,175	8,688	−2,513
Misc. General Services	13,277	7,594	5,683	20,224	13,206	7,018	25,671	13,853	11,818
O/w: Software	7,864	250	7,614	9,381	424	8,957	10,321	479	9,842
Private remittances	10,421	201	10,220	10,493	208	10,285	12,326	283	12,043
Investment income*	2,184	3,614	−1,430	2,247	3,486	−1,239	2,444	4,861	−2,417
Current A/C Balance	68,058	68,543	−485	85,946	90,861	−4,915	92,592	105,548	−12,956
Foreign Investment	18,541	16,051	2,490	27,967	18,310	9,657	30,742	23,331	7,411
O/w Direct Investment*	3,184	1,205	1,979	2,788	1,527	1,261	3,505	1,201	2,304
Portfolio Investment	15,357	14,846	511	25,179	16,783	8,396	27,237	22,130	5,107
Loans (incl. Bonds)**	12,681	8,846	3,835	17,068	10,148	6,920	17,187	13,061	4,126
Banking Capital	6,832	6,188	644	7,675	4,445	3,230	8,920	5,915	3,005
Other capital	2,761	2,096	665	5,302	1,299	4,003	5,297	981	4,316
Capital A/C Balance	40,815	33,460	7,355	58,012	34,340	23,672	62,146	43,430	18,716
Overall BoP	109,175	102,239	6,936	144,187	124,965	19,222	155,480	148,978	6,502

Note: ⁺ Revised, except July–Sept (Q2) 2005–06, which is provisional. The numbers in the table also incorporate the revision of BoP data for Q1 & Q2 of 2004/05 and Q1 of 2005/06 as per the RBI release on December 30, 2005.
* Includes profits reinvested by foreign-owned companies in India and Indian-owned companies overseas and net of direct investments of Indian owned companies overseas in the case of direct investment.
** Includes external assistance from multilateral and bilateral agencies.
Source: Statement 43, India's Balance of Payments in Dollars, Monthly Bulletin, Reserve Bank of India, December 16, 2005 and as revised in the RBI Statement on December 30, 2005.

<sec id="sec018"><title>Invisibles

At Table 3.1, the pattern of expansion of key elements in the category “Invisibles” which include both the export of services, as well as the flow of factor income, is presented. At Table 3.2, key elements of the BoP for the previous eighteen (18) quarters are reported. Earnings from export of software services show consistent year-on-year growth of 30 per cent and more. Remittances growth has been strong in the current fiscal. Table 3.1

Changes in Key Items of Invisible Earnings on a Quarterly Basis⁺ Total Value and Change^†

2001–02, 2002–03, 2003–04 and 2004–05

Unit: US dollar millions

		Year ending March 31	Q1 (Apr–Jun)		Q2 (July–Sep)		Q3 (Oct–Dec)		Q4 (Jan–Mar)

			$ million	Change	$ million	Change	$ million	Change	$ million	Change

Misc. Gen. Services, incl. Software & Exp. of o/seas branches of Indian cos.	Net	2002	1,868	127%	624	−26%	1,060	357%	712	198%
		2003	950	−49%	1,320	112%	1,866	76%	188	−74%
		2004**	918	−3%	477	−64%	2,676	43%	853	354%
		2005	2,783	203%	2,900	508%	2,399	−10%	6,460	657%
		2006	5,909	112%	5,909	104%
Of which Software Services	Net	2002	1,700	42%	1,683	4%	1,770	25%	1,731	14%
		2003	1,963	15%	2,054	22%	2,415	36%	2,431	40%
		2004**	2,544	30%	2,750	34%	3,092	28%	3,364	38%
		2005	3,710	46%	3,859	40%	4,183	35%	4,829	44%
		2006	6,479	75%	4,989	29%
Remittances of overseas Indians	Net	2002	5,130	63%	3,047	17%	3,215	−21%	4,006	33%
		2003	3,551	−31%	3,957	30%	4,073	27%	4,806	20%
		2004**	4,798	35%	6,472	64%	5,890	45%	5,673	18%
		2005	5,815	21%	4,153	−36%	4,476	−24%	5,800	2%
		2006	6,371	10%	5,672	37%
Investment Income	Net	2002	−1,040	−40%	−731	−22%	−1,049	4%	−1,024	4%
		2003	−1,025	−1%	−626	−14%	−1,218	16%	−675	−34%
		2004**	−783	−24%	−515	−18%	−2,020	66%	27	Nm
		2005	−758	−3%	−1,159	125%	−594	−71%	−737	Nm
		2006	−1,070	41%	−2,008	73%
Total of all Invisibles	Net	2002	5,094	448%	2,356	1%	3,495	−13%	4,029	61%
		2003	3,196	−37%	4,271	81%	5,135	47%	4,433	10%
		2004**	4,929	54%	6,621	55%	7,240	41%	7,225	63%
		2005	8,154	65%	6,129	−7%	6,304	−13%	11,693	62%
		2006	10,131	24%	8,548	39%

Note: ⁺ Revised, except July–Sept (Q2) 2005–06, which is provisional. The numbers in the table also incorporate the revision of BoP data for Q1 & Q2 of 2004/05 and Q1 of 2005/06 as per the RBI release on December 30, 2005.
** The BoP numbers for 2003–04 have been revised as per the December 30, 2005 release. Materially the Current Account Surplus has been upped by $4 billion, of which, the upward revision in Invisible Earnings amount to $1.8 billion. However, the revisions to the individual quarterly data of 2003–04 are yet to be released.
^† The change is the variation with respect to the same quarter in the previous year.
Source: As in Table 2 above.

Table 3.2

Net position-Major Balance of Payments Aggregates

Previous Ten Consecutive Quarters

Unit: US $ million

	2003/2004				2004/2005				2005/2006

	Q1	Q2	Q3	Q4	Q1	Q2	Q3	Q4	Q1	Q2

Merchandise Trade	−5,565	−3,795	−4,625	−1,470	−5,140	−9,628	−11,785	−11,532	−15,427	−16,208
Total Invisibles	4,929	6,621	7,240	7,225	8,154	6,129	6,304	11,691	10,131	8,548
of which:
Travel & Transportation	76	218	649	597	210	3	95	155	−1,129	−1,384
Misc. General Services	918	477	2,676	853	2,783	2,900	2,399	6,460	5,909	5,909
Of which: software	2,544	2,750	3,092	3,364	3,710	3,859	4,183	4,829	6,371	4,989
Private remittances	4,798	6,472	5,890	5,673	5,815	4,153	4,476	5,800	6,371	5,672
Investment income*	−783	−515	−2,020	27	−758	−1,159	−594	−737	−1,070	−1,676
Current Account Balance	−636	2,826	2,615	5,755	3,014	−3,499	−5,481	159	−5,296	−7,660
Foreign Investment	2,097	3,025	4,992	4,662	912	1,578	5,279	4,399	2,092	5,319
O/w Direct Investment*	721	889	881	929	831	1,148	690	592	1,228	1,076
Portfolio Investment	1,376	2,136	4,111	3,733	81	430	4,589	3,807	864	4,243
Loans (incl. Bonds)**	960	1,036	−4,854	10	2,710	1,125	3,195	4,225	1,057	3,069
Banking Capital	1,931	300	3,620	380	1,003	−359	−422	2,921	703	2,302
Other capital	1,334	1,185	1,230	−990	−94	759	3,654	927	2,470	1,846
Total Capital Account	6,021	5,544	4,987	3,990	424	3,101	11,688	12,352	6,180	12,536
Overall Balance of Payments	5,464	8,592	7,294	10,071	7,570	−634	6,594	12,629	1,246	5,256

Note: As in Table 2 above.
Source: As in Table 2 above.

Table 3.3

Increase in the foreign currency assets of the Reserve Bank of India

Revaluation and real components

Unit: US$ million

	2003/04^†			2004/05^†				2005/06

	Q2	Q3	Q4	Q1	Q2	Q3	Q4	Q1	Q2	Q3

Nominal increase	8,667	10,138	10,097	6,703	−68	11,081	10,407	−3,219	4,568	−6,170
Overall BoP Surplus	8,592	7,294	10,071	7,570	−634	6,594	12,629	1,246	5,256
Equal to Real Increment	8,592	7,294	10,071	7,570	−634	6,594	12,629	1,246	5,256
Implicit impact of revaluation	75	2,844	26	−867	566	4,487	−2,222	−4,465	−688
Our Estimates
Revaluation impact	800	2,500	−96	−811	374	4,460	−2,218	−4,490	−628	−1,551
Real increment, i.e, overall BoP Surplus	7,867	7,638	10,194	7,514	−442	6,621	12,316	1,271	5,196	−4,619

Note:^† Figures reported in previous issues of this journal for periods up to Q1 of 2004–05-from Table 3.5, Money & Finance July–December 2004, and earlier issues.
Sources: Exchange rates for the four currencies are from the daily noon rates of the Federal Reserve Bank of New York, Aggregate foreign currency assets of the RBI from the respective Weekly Statistical Supplements up to June 18, 2005. The foreign exchange currency assets on the last day of each quarter are from the RBI's Report on Foreign Exchange Reserves, March 31, 2005 and similar releases by the RBI earlier.

Oil Import Bill—2004/05 and prospective

The oil import bill in 2004/05 stood at $29.8 billion, which was 45 per cent higher than that in the previous year ($20.6 billion). Indian refineries export surplus refined petroleum products and on net basis, the oil import bill was about $23.1 billion in 2004/05, about 35 per cent higher. Most of the increase was due to the rise in crude oil prices, which was 40–45 per cent higher during 2004/05.

Extrapolating forward, the oil import bill is thus likely to be close to $43 billion during the current fiscal year—an increase of nearly $13 billion over last year (2004/05), and $22 billion over the year prior to that (2003/04).

In the current fiscal (2005/06), up to the end of November, oil imports were higher by 44 per cent. On average crude prices in this fiscal up to the middle of January 2006, were some 36 per cent higher than that in the previous financial year—indicating an increase in both the volume of imports and the unit value of such imports. Extrapolating forward, the oil import bill is thus likely to be close to $43 billion during the current fiscal year—an increase of nearly $13 billion over last year (2004/05), and $22 billion over the year prior to that (2003/04). While, some if it is due to higher quantities, but much of the increase is on account of higher crude prices.

Current Account Outlook for 2005/06 and 2006/07

Two factors need reiteration. First, with current prices of crude oil in the region of $60/bbl it is unlikely that we will see further large increases over the next couple of years; which means that India's oil import bill is unlikely to rise at the pace that it has over the past couple of years. Second, it has to be assumed that the difference between the DGCI&S and BoP merchandise trade deficit will persist in the near-term.

Under these circumstances, the current account deficit in 2005/06 is expected to be in the region of $20–25 billion, or 2.5 to 3.1 per cent of GDP. This is inclusive of the accumulated interest (about $2 billion) on the India Millennium Deposits that were redeemed in December 2005.

In 2006/07, the CAD is expected to be in the region of or slightly in excess of $25 billion that is close to 3.0 per cent of expected GDP, with the likelihood that in years after that the CAD as a proportion of GDP would tend to decline, as the process of defence modernisation is completed. In the event that the difference between the civilian merchandise trade deficit, which is amenable to forecast, and the BoPmerchandise trade deficit, which presently contains a large component that is unknown and therefore impossible to predict, declines in the next year (or for that matter in the balance part of the current fiscal), the CAD will to that extent be lower.

Up to the end of the third quarter of 2005/06, notwithstanding the magnitude of the CAD and the repatriation of more than $7 billion of India Millennium Deposits at the end of December, there appears to have been an accretion of nearly $2 billion to the foreign currency assets of the central bank, and another $1 billion in the first few days of 2006. As long as confidence in India's growth story and its macroeco-nomic stability remains solid, capital inflows are likely to be more than adequate to finance the CAD this year and in the next.

Foreign Investment

Net FDI inflows into India in the first half of 2005/06, were marginally higher than in the comparable period of last year, while FDI outflows in the first half were slightly less than that in the same period last year.

Net foreign direct investment (FDI) inflows into India in the first half of 2005/06, were marginally higher than in the comparable period of last year ($3.2 billion vis-a-vis $3.0 billion), while FDI outflows in the first half were slightly less ($0.9 billion vis-a-vis $1.1 billion) than that in the same period last year. Net FDI inflow in the first half of the year was thus higher by $0.3 billion.

Portfolio inflows were almost entirely made up of increase in FII investments with overseas offering (other than sponsored issuance which effectively replaced domestic shareholding, including FII holding, for outstanding claims against shares in overseas exchanges). Net portfolio inflows in the first half of 2005/06 were $5.1 billion—ten times that in the corresponding period of last year.

FII net purchases of equity in the third quarter of 2005–06 amounted to $2.11 billion. However, they also sold down debt positions by $0.91 billion and thus the net capital inflow on account of FII investments in the third quarter of 2005/06 aggregated $1.20 billion. Reported outstanding investment in debt has declined sharply from a peak value of $1.7 billion at the end of December 2004, to $0.45 billion at the end of December 2005. The decline was perhaps partly due to the reduction of yield differentials between rupee and US dollar securities, and in part on account of the progressive strengthening of the US dollar vis-a-vis other major currencies since the beginning of 2005.

Foreign Currency Assets of the Reserve Bank of India

In the past issues of this journal we have presented our estimate of the accretion to the RBI's foreign currency assets due to revaluation gains arising from the movement in cross rates of the major currencies.² Over the past year, the RBI has also shared the composition of the sources of accretion to the foreign currency assets with the general public. At Table 3.5, we provide our past estimates and the actual position as indicated in the BoP statement. It may be observed that our estimates in the past have been reasonably close to the mark, particularly given the crudeness of the approach adopted. The estimate for the third quarter of 2005–06 is also provided. As the dollar recovers strength vis-a-vis the Euro, the revaluation gains are being gradually wound down.

² Since the forex assets are held in different major currencies, and the aggregate is expressed in one currency (US dollars), the nominal increase in the dollar value of foreign currency assets is always due to a combination of valuation changes and real accretion. However, the impact is significant when there is considerable change in the cross rates of major currencies, as had happened in 2002, 2003, 2004 and 2005.

SectorsAgriculture

The SW monsoon 2005 was a good one with total precipitation being 99 per cent of the long term average. Rainfall in most of the drier parts of the peninsular and west India was normal to excess, and there were heavy floods in some of the areas. The Mid Year Review (December 2005) of the Finance Ministry suggests on the basis of the good monsoon that foodgrain “output is projected to increase by about 5 per cent over that recorded in 2004–05”. However, on the basis of media reports, the agriculture ministry seems to view that foodgrain output would increase by at the most 2.7 per cent to 210 million tonnes (m.t.) and there was a possibility that it could be less, just marginally more than last year's production of 204.6 m.t. (Table 4). Among non-foodgrain the only significant output increase is expected for sugarcane.

Six months ago, given the delay in the monsoon and based on expectations of an eventual recovery, we had written that “we do not expect farm sector output to grow by more than 1.5 per cent in the base case, and by little over 2 per cent if natural conditions—like the intra-seasonal rain distribution and soil moisture conditions—are favourable”. On the basis of information presently available, that conclusion has turned out to be reasonably accurate. Table 4

Output of Principal Agricultural Commodities

Unit: Million Tonnes except for cotton & index

	1999–00	2000–01	2001–02	2002–03	2003–04	2004–05	2005–06^†

Rice	89.7	85.0	93.3	71.8	88.3	85.3	87–88
Wheat	76.4	69.7	72.8	65.8	72.1	72.0	72–73
Coarse cereals	30.3	31.1	33.4	26.1	38.1	33.9	34–35
Pulses	13.4	11.1	13.4	11.1	14.9	13.4	13–14
Kharif foodgrain	105.5	102.1	112.1	87.2	116.9	103.3	105–106
Rabi foodgrain	104.3	94.7	100.8	87.6	96.6	101.3	101–104
Total of Foodgrain	209.8	196.8	212.9	174.8	213.5	204.6	206–210
Groundnut	5.3	6.4	7.0	4.1	8.2	7.0	7.0–7.5
Rape and mustard	5.8	4.2	5.1	3.9	6.2	8.4	8.0–8.5
Soybean	7.1	5.3	6.0	4.7	7.9	7.5	7.5
Total of nine oilseeds	20.7	18.4	20.7	14.8	25.3	26.1	25.5–26.5
Cotton (million 170 kg bales)	11.5	9.5	10.0	8.6	13.9	17.0	17.5
Sugarcane	299.3	296.0	297.2	287.4	237.3	232.3	275.0
Index of Agricultural Production (1993/94=100)	138.5	130.2	139.9	119.0	140.8

Note:^† Estimated from the available data and industry estimates for kharif foodgrain and commercial crop, respectively.
Sources: Mid Year Review, Finance Ministry, Government of India 2005–06, December 2005 and publications of the Agriculture Ministry for earlier years.

Industry

Electricity generation and mining output have failed to keep pace—and that too by along shot. If additional capacity in these sectors does not roll out, soon enough, that will erect constraints which are even more severe on manufacturing than presently.

As mentioned earlier, the present phase of manufacturing output expansion is now into its 42^nd month. Electricity generation and mining output have failed to keep pace—and that too by a long shot. If additional capacity in these sectors does not roll out, soon enough, that will erect constraints which are even more severe on manufacturing than presently.

Consumer goods—both durables and non-durables—as also capital goods have been consistent growth drivers in aggregate manufacturing output expansion (Table 5.2). Table 5.1

Index of Industrial Production: Growth rates (annualised) by sectors

Unit: per cent

Year	Period	General	Manufacturing	Mining	Electricity

1995–96	Full year	13.0	14.1	9.7	8.1
1996–97		6.1	7.3	−1.9	4.0
1997–98		6.7	6.7	6.9	6.6
1998–99		4.1	4.4	−0.8	6.5
1999–00		6.7	7.1	1.0	7.3
2000–01		5.0	5.3	2.8	4.0
2001–02		2.7	2.9	1.2	3.1
2002–03		5.8	6.0	5.8	3.2
2003–04		7.0	7.3	5.2	5.1
2004–05		8.4	9.2	4.4	5.2
2001–02	Q-1	2.2	2.6	−1.6	2.2
	Q-2	2.4	2.5	−0.2	4.0
	Q-3	2.7	2.9	1.7	2.1
	Q-4	3.3	3.3	1.6	4.1
2002–03	Q-1	4.3	4.1	6.8	3.7
	Q-2	6.5	6.9	6.2	3.3
	Q-3	5.8	6.1	4.7	4.5
	Q-4	6.2	6.9	5.7	1.5
2003–04	Q-1	5.7	6.0	5.6	4.2
	Q-2	6.6	7.6	2.9	1.9
	Q-3	7.3	7.9	4.4	4.3
	Q-4	8.1	7.9	8.1	9.8
2004–05	Q-1	7.7	8.1	5.7	5.9
	Q-2	9.0	9.3	4.6	9.6
	Q-3	8.7	10.1	4.9	3.8
	Q-4	7.8	9.0	2.6	1.7
2005–06	Q-1	10.4	11.3	4.3	7.7
	Q-2	6.4	7.7	−2.1	2.0
	Oct	9.1	10.1	−0.5	7.7
	Nov	6.9	8.2	−1.4	2.7

Note: Quarterly growth rates are with respect to the corresponding quarter in the previous year.
Source: Central Statistical Organisation, Press Note on Index of Industrial Production, issues up to January 12, 2006.

Table 5.2

Index of Industrial Production: Growth rates (annualised) by Use-based Classification

Unit: per cent

Year	Period	Basic Goods	Capital Goods	Intermediates	Consumer Goods

					Total	Durables	Non-durables

Weight out of 1,000		355.65	92.57	265.14	286.64	53.65	232.99
1995–96	Full Year	10.7	5.4	19.3	12.8	25.8	9.8
1996–97		3.0	11.4	8.1	6.2	4.6	6.6
1997–98		6.5	5.8	8.0	5.5	7.8	4.9
1998–99		1.5	11.5	5.9	1.9	4.6	1.2
1999–00		6.3	8.0	9.0	6.0	15.3	3.2
2000–01		4.3	1.7	4.7	8.0	14.6	5.8
2001–02		2.4	−3.4	1.6	6.0	11.5	4.1
2002–03		4.8	10.5	3.9	7.1	−6.3	12.0
2003–04		5.5	13.6	6.4	7.0	11.6	5.8
2004–05		5.5	13.3	5.8	11.5	14.3	10.6
2001–02	Q-1	1.4	−6.0	3.3	4.8	7.4	3.9
	Q-2	2.4	−7.4	2.5	6.0	17.3	1.6
	Q-3	2.2	−0.9	0.2	6.9	11.6	5.3
	Q-4	3.7	0.6	0.4	6.2	9.6	5.1
2002–03	Q-1	5.5	5.2	0.2	6.6	−1.7	9.9
	Q-2	4.5	13.4	3.5	9.8	−10.4	18.8
	Q-3	4.5	13.3	4.5	6.3	−4.3	10.2
	Q-4	4.9	10.0	7.3	5.8	−8.2	10.4
2003–04	Q-1	4.4	8.4	2.8	8.6	4.0	11.1
	Q-2	4.2	11.6	7.1	7.3	9.3	6.7
	Q-3	5.2	10.2	9.4	6.7	13.8	4.5
	Q-4	8.0	23.0	6.1	5.6	19.0	2.0
2004–05	Q-1	4.6	13.4	10.9	7.3	12.2	4.6
	Q-2	6.4	14.1	5.1	13.0	20.3	11.8
	Q-3	6.9	13.6	4.9	13.5	13.5	13.5
	Q-4	4.3	14.5	3.7	12.5	11.6	12.8
2005–06	Q-1	7.8	13.8	3.6	18.4	16.4	19.2
	Q-2	4.6	16.8	3.0	9.0	10.1	7.3
	Oct	6.8	22.9	2.2	12.9	14.0	12.9
	Nov	4.5	11.8	2.0	11.8	14.9	10.7

Note: As in Table 5.1 above.
Source: As in Table 5.1 above.

In the present round of expansion the dispersion of output expansion at the 2-digit level has been widely spread with many sectors recording quite rapid growth (Table 5.3). Table 5.3

Annualised Growth Rates for Manufacturing at the 2-digit level

Ranked with respect to growth in April–November 2005/06

Unit: per cent

Group	Description of sector	Weight in 1000	Average 1995–1998*	Average 2003–2005^†	2000–01	2001–02	2002–03	2003–04	2004–05	2005–06 (Apr–Nov)
(1)	(2)	(3)	(4)	(5)	(6)	(7)	(8)	(9)	(10)	(11)

The fastest growing industry groups: 10 per cent and higher
38	Other industries	25.59	25.3	8.3	11.7	8.9	0.1	7.2	18.5	↑ 23.3
26	Textile products incl. RMG	25.37	17.9	10.1	4.0	2.4	14.4	−3.2	19.2	21.6
22	Beverage, tobacco etc.	23.82	15.4	15.8	4.3	12.2	27.9	8.6	10.8	↑ 17.0
33	Basic metal & alloys	74.53	8.4	8.0	1.8	4.3	9.2	9.2	5.4	⇈ 15.3
37	Transport equipment & parts	39.84	10.8	11.8	−2.0	6.8	14.6	17.0	4.1	⇈ 12.5
30	Basic chemicals & products	140.02	10.1	8.9	7.3	4.8	3.7	8.7	14.5	12.0
23	Cotton textiles	55.18	8.3	0.5	2.9	−2.2	−2.7	−3.1	7.6	↑ 11.7
35–36	Machinery (excl. transport)	95.65	9.8	12.3	7.3	1.3	1.6	15.6	19.6	⇊ 10.1
Industry groups with slow to modest growth : 0 to 8 percent
32	Non-metallic mineral products	43.97	15.0	8.0	−1.2	1.2	5.1	3.6	1.5	↑ 8.2
28	Paper & paper products	26.52	10.5	10.7	−9.1	3.1	6.8	15.6	10.5	⇊ 5.8
31	Rubber, plastic, coal & PoL	57.28	5.0	4.1	11.8	11.1	5.5	4.5	2.4	2.7
25	Jute & mesta	5.90	12.3	2.6	0.8	−5.9	8.3	−4.2	3.7	2.6
29	Leather, leather & fur products	11.39	8.4	−0.1	10.7	5.3	−3.3	−3.9	6.7	⇊ 1.4
Industry groups with negative growth: up to −8 per cent
24	Manmade fibres, wool,silk yarn	22.58	14.6	4.5	5.8	4.4	3.0	6.8	3.5	−1.1
34	Metal products (excl. Mchy)	28.10	8.8	5.3	15.0	−10.0	6.4	2.6	5.7	−2.1
27	Wood, products & furniture	27.01	15.6	−6.6	2.9	−11.0	−17.6	6.8	−8.5	−3.5
20–21	Food Products	90.83	5.1	3.2	10.1	−1.6	11.0	−0.5	−0.4	−4.3
2–3	Overall Manufacturing	793.58	9.4	8.3	5.3	2.9	6.0	7.3	9.2	9.4
Distribution of Rates of Growth
	Median Value	9.1	5.3	4.3	3.1	5.5	6.8	5.7	8.2
	25 percentile value	5.0	3.2	1.8	−1.6	1.6	−0.5	3.5	1.4
	75 percentile value	10.5	10.1	10.1	5.3	9.2	8.7	10.8	12.5
	Nos. of industry groups > mean	11	8	8	9	8	6	6	7
	Nos. industry groups < 1/3 rd of mean	0	3	4	5	5	5	4	4

Note: * Averages for 3 years-1995–96, 1996–97 and 1997–98; ^† Averages for the 3-year period-2002–03 to 2004–05.
Arrows indicate change and direction, with two arrows emphasizing where the order of change in the rate of growth compared to last year is sizeable.
Source: As in Table 5.1 above.

CHART 3Industrial Growth in General and Manufacturing IIP

2-digit level analysis

There are significant variations at the 2-digit level in the growth record.

The fastest growing sectors that have averaged 10 per cent and higher growth in the last 3 years include #22 beverages, tobacco etc., #37 transport equipment, #35–36 machinery, and #26 textile products including apparel and #38 other manufactures.

Paper where growth had been fast in recent years has slowed down considerably this year

While output growth in chemicals, basic metals & alloys and other manufactures, has jumped sharply and into the >10 per cent category.

Industry groups with growth of between 8 and 10 per centinclude #30 chemicals, #32 non metallic mineral products (cement and ceramics) and #33 basic metal & alloys.

Cotton textiles (mill sector—yarn and some fabric) have experienced strong output growth last year, and the trend is continuing into the current fiscal.

Categories with 6 per cent growth and less include manmade fibres & yarn, rubber, plastic & refined petroleum products, and food products (sugar, edible oil etc).

It is interesting to note the wide divergence in manufacturing, between those that are growing at 8% and over (9 categories) and those that are trudging along with 6% and less growth (8 groups).

Leather and wood come in last with flat to negative growth.

It is interesting to note the wide divergence in manufacturing, between those that are growing at 8 per cent and over (9 categories) and those that are trudging along with 6 per cent and less growth (8 groups). The faster growing first group accounts for 64 per cent of the base weight in the manufacturing index, while the second slower moving group accounts for the balance of 34 per cent.

Prices & Inflation<sec id="sec029"><title>Wholesale or Producer Prices (WPI)

After inflation had become a hot button policy issue in the second half of 2004, a combination of fiscal and monetary policy initiatives helped ease inflation down to 5.1 per cent at the end of March 2005. In the current fiscal inflation has been expectedly quiescent, with the WPI inflation rate as at the end of December 2005, at 4.4 per cent. However, inflation in manufactured goods (2.8 per cent at the end of December 2005) was less than expected, and the strength of inflationary pressures in foodgrain (5.9 per cent) and other primary food items (7.4 per cent) certainly a surprise.

It is possible that the trend in foodgrain and other primary food reflects that crop output has not been too good, notwithstanding total precipitation. It is also possible that the relatively low level of foodgrain stock with government agencies (total of 15 m.t. at the beginning of October 2005), has removed an enormous overhang on the market process and on prices. However, the price of rice, which is primarily a summer crop and whose official stocks are particularly low (5 m.t.), has risen only modestly (3.1 per cent), while that of wheat (winter crop and official stocks at 10 m.t.) has increased by 5.7 per cent and that of pulses (no official stock) is up by 15.6 per cent. The fact that primary food, other than foodgrain, which is mostly fruit, vegetables, milk, eggs, meat and fish has seen prices increase by over 7 per cent is more readily explained by rapidly increasing urban demand, than by rainfall induced supply shortfalls.

Composition of Inflation

While petroleum products, metals and chemicals have expectedly contributed heavily to inflation, the large contribution from foodgrain and other primary food items is something of a break from the trend in the recent past.

The product category-wise contribution to inflation is analysed at Table 6.2. While petroleum products, metals and chemicals have expectedly contributed heavily to inflation, the large contribution from foodgrain and other primary food items is something of a break from the trend in the recent past. Table 6.1

Components of Wholesale Price Inflation

Base 1993–94=100

Unit: per cent

Calendar Year	All Commodities	Foodgrain (cereals & pulses)	Other Primary Food items	Commercial Energy	Manufactured Goods	Core(x)^†

Weight	100%	5.01%	10.39%	14.23%	63.75%	70.37%
Average of weeks for the completed calendar year up to 2004
1998	5.8	4.9	14.8	6.0	3.9	4.4
1999	3.5	18.4	−2.0	5.5	3.4	2.9
2000	6.3	0.9	5.7	25.6	2.7	2.4
2001	5.2	−1.5	4.6	14.7	2.9	3.2
2002	2.5	0.2	3.9	4.5	1.7	1.8
2003	5.3	2.2	1.0	6.7	5.0	5.9
2004	6.5	0.1	3.4	9.1	6.6	6.8
2005	4.8	3.7	3.8	10.0	4.0	3.3
Last week of month from March 2005 onwards-year-on-year basis
26-Mar-05	5.1	2.2	3.3	10.5	4.6	4.1
30-Apr–05	5.7	4.0	3.5	10.8	5.4	4.8
28-May-05	5.3	1.9	2.5	10.8	5.4	4.1
25-Jun-05	4.3	5.6	3.4	9.8	3.6	2.5
30-July-05	4.2	4.6	4.5	10.9	2.8	1.9
27-Aug-05	3.3	3.7	2.3	8.1	2.8	1.9
24-Sep-05	4.3	4.4	4.6	11.7	2.3	1.8
29-Oct-05	4.8	5.3	4.6	10.6	3.4	2.8
26-Nov-05*	4.5	5.2	6.3	7.7	3.3	3.1
31-Dec-05*	4.4	5.9	7.4	8.0	2.8	2.6

Notes: *Figures for weeks marked with asterisk are on the basis of provisional estimates. All previous periods are based on revised estimates.
^† Core (by exclusion) rates of inflation, that excludes primary food items and energy from the index.
Source: Office of the Economic Adviser, Ministry of Commerce & Industry, Government of India, up to press release of January 13, 2006.

Table 6.2

Sources of Wholesale Price Inflation in 2005

Unit: per cent

	Weight	25 Dec 2004	26 Mar 2005	25 Jun 2004	24 Sep 2005	31 Dec 2005*

Overall WPI inflation	100.00	6.56	5.10	4.30	4.34	4.40
Foodgrain	5.01	0.11	0.11	0.28	0.22	0.29
Other primary food	10.39	0.37	0.35	0.36	0.48	0.77
Raw cotton	1.36	−0.29	−0.32	−0.29	−0.26	0.09
Oilseeds	2.67	−0.03	−0.17	−0.12	−0.22	−0.35
Commercial Energy	14.23	1.64	1.49	1.39	1.66	1.13
Petroleum products	6.99	1.28	1.12	0.98	1.20	0.87
Manufactured Goods	63.75	3.80	2.96	2.28	1.44	1.79
Dairy products	0.69	0.02	−0.02	0.00	0.00	0.00
Grain mill products	1.03	−0.03	−0.01	0.04	0.02	0.08
Sugar, khandsari & gur	3.93	0.79	0.69	0.44	0.39	0.06
Edible oil	2.76	−0.12	−0.23	−0.17	−0.24	−0.19
Tea & coffee processing	2.76	0.01	0.03	0.01	0.11	0.18
Cotton textiles	4.22	−0.34	−0.54	−0.47	−0.56	−0.10
Manmade Textiles	4.72	0.15	0.04	−0.09	−0.18	−0.14
Rubber & plastic products	2.39	−0.02	−0.03	0.02	0.10	0.13
Chemical material & products	11.93	0.46	0.47	0.46	0.34	0.35
Non-metallic minerals	2.52	0.12	0.29	0.18	0.19	0.16
Iron and steel	3.64	0.94	0.78	0.33	0.33	0.24
Non-ferrous metals	1.47	0.10	0.11	0.17	0.19	0.18
Machinery & machine tools	8.36	0.66	0.59	0.66	0.42	0.18
All other manufactured goods	15.14	1.05	0.75	0.62	0.18	0.42

Notes: * Provisional estimates. All previous periods are based on revised estimates.
Source: as in Table 6.1.

Consumer Price Inflation

Consumer price inflation measured both by the CPI-UNME (urban non-manual employee) and CPI-IW (industrial worker) had stabilised at around 4 per cent in 2005. In November, CPI-IW jumped to over 5 per cent, presumably on account of the increase in food prices. CHART 4Consumer and Wholesale Rates of Inflation

Credit & Investment

Credit flow from the banking system to the commercial sector has continued to expand at a rapid rate through 2005/06—carrying forward a trend that began in 2002/03. Non-food credit rose by over Rs. 235,777 crore in the first nine months of 2005/06 on top of the increase of over Rs. 213,464 crore during the completed fiscal year of 2004/05 (Table 7.1). Table 7.1*

Changes in Major Items of Bank Accommodation to the Commercial Sector

Unit: Rs. crore

FY	Non-food Credit				Food Credit

	02–03	03–04	04–05	05–06	02–03	03–04	04–05	05–06

Q-1 (June)	19,308	3,091	30,985	57,275	7,030	586	7,100	3,683
Q-2 (Sept)^†	46,834	41,034	95,533	157,284	−752	−12,107	2,677	−1,571
Q-3 (Dec)	64,765	64,484	146,392	235,777	−2,031	−13,127	7,818	−108
Q-t (Mar)	104,204	125,088	213,464		−4,499	−13,518	5,159

FY	Investments				Total Accommodation

	02–03	03–04	04–05	05–06	02–03	03–04	04–05	05–06

Q-1 (June)	−5,724	−4,705	−2,332	−3,487	6,111	−1,385	28,717	54,142
Q-2 (Sept)^†	−5,675	−1,838	−2,312	−10,961	40,825	39,484	93,286	146,677
Q-3 (Dec)	−2,719	−3,445	2,509	−16,464	61,472	61,363	142,285	219,668
Q-t (Mar)	−1,802	−3,687	−8,537		101,791	121,725	208,534

Note: As in Table 7.2 below.
Source: As in Table 7.2 below.

The increase in non-food credit has been nearly 32 per cent, but because of continued drawdown of investments, the total accommodation extended by banks to the commercial system grew by 28 per cent (Table 7.2). Table 7.2*

Year-on-year changes in Major Items of Credit Flow to the Commercial Sector

Unit: per cent

FY	Non-food Credit				Food Credit

	02–03	03–04	04–05	05–06	02–03	03–04	04–05	05–06

Q-1 (Jun)	16.8	16.2	22.2	29.7	21.2	−17.1	−14.8	3.8
Q-2 (Sept)^†	17.5	15.8	24.5	31.5	6.0	−29.8	3.4	2.4
Q-3 (Dec)	18.4	16.7	27.3	31.6	−0.6	−30.0	20.4	−6.3
Q-4 (Mar)	19.5	18.4	26.5		−8.3	−27.3	14.3

FY	Investments				Total Accommodation

	02–03	03–04	04–05	05–06	02–03	03–04	04–05	05–06

Q-1 (Jun)	−2.0	0.5	−1.7	4.1	14.3	14.1	19.4	26.6
Q-2 (Sept)^†	−4.4	3.8	−6.5	−3.3	14.3	14.3	21.0	24.9
Q-3 (Dec)	−0.7	−1.6	−5.3	−15.6	15.5	14.4	23.9	27.6
Q4 (Mar)	−0.6	−4.0	−6.1		16.7	15.8	23.3

Notes:^† For years previous to 2005–06, in the second quarter, since the fortnight straddles the end of September and the first week of October, the aggregates as at the end of the first week of October have been used, that is 1st, 3rd, 4th, 5th, and 6th October of 2004, 2003, 2002, 2001and 2000 respectively.
*Data series adjusted for mergers and conversions of non-banks into banks.
Source: Reserve Bank of India, Weekly Statistical Supplement various issues up to January 6, 2006.

External Merchandise Trade

This section has four tables that provide information on (a) the composition and (b) the direction of India's external merchandise trade, with the final table providing information on our bilateral trade with our top 100 trading partners.

<sec id="sec035"><title><italic>Imports</italic>

In the first half of 2005/06, total imports (in rupee terms) rose by 30 per cent, gold imports increased by 41 per cent and crude petroleum by 38 per cent. Non-oil, non-bullion imports were up by 25 per cent, comparable to the position for the previous completed year (28 per cent). Import of capital goods increased dramatically by 35 per cent and manufacturing intermediates by 26 per cent [see Table 8.1]. Table 8.1

Summary of Changes in the rupee value of Merchandise Imports

Financial years of 2003–04, 2004–05 and 2005–06 (April to September)

Unit: Rs. crore

	2003/04	2004/05	Change in 2004/05 over previous year		First Half 2005/06	Change in Apr–Sep 2005/06 over comparable period in previous year

			Amount	%	Amount	Amount	%

Food Products	17,027	17,111	84	0.5%	8,108	−399	−4.7%
of which: Edible oil	11,683	10,756	−928	−7.9%	4,547	−1,044	−18.7%
Other agricultural products	3,625	3,192	−433	11.9%	1,383	−185	−11.8%
Ores & minerals	13,424	24,366	10,942	81.5%	13,584	1,627	13.6%
Manufactured intermediate & consumer goods	114,262	150,990	36,728	32.1%	86,104	17,581	25.7%
Of which:
Electronic goods	34,492	43,759	9,267	26.9%	22,435	1,842	8.9%
Iron & steel	6,492	10,914	4,422	68.1%	9,426	4,679	98.6%
Organic chemicals	12,689	16,986	4,297	33.9%	9,464	1,952	26.0%
Fertilisers (manufactured)	2,301	4,052	1,751	76.1%	2,869	1,353	89.3%
Artificial resins, plastics etc	4,972	6,272	1,300	26.2%	4,203	1,290	44.3%
Non ferrous metals	4,360	5,630	1,270	29.1%	3,235	630	24.2%
Inorganic chemicals	5,838	6,985	1,147	19.7%	3,436	96	2.9%
Chemical mat. & products	2,902	3,541	639	22.0%	1,873	68	3.8%
Wood & wood products	3,269	3,803	534	16.3%	1,673	−286	−14.6%
Manmade filament/spun yarn	1,912	2,116	204	10.7%	1,082	91	9.2%
Other commodities	11,944	19,562	7,618	63.8%	11,240	3,621	47.5%
Capital goods	51,986	60,335	8,348	16.1%	32,917	8,493	34.8%
All kinds of machinery*	29,739	39,849	10,110	34.0%	23,076	6,254	37.2%
Professional instruments	5,653	6,681	1,028	18.2%	3,588	574	19.0%
Transport equipment	14,833	10,886	−3,947	−26.6%	4,684	1,402	42.7%
Gold	29,946	46,097	16,151	53.9%	26,905	7,880	41.4%
Diamonds & gem stones	32,757	42,341	9,584	29.3%	23,380	5,606	31.5%
Crude petroleum & products	94,520	134,094	39,574	41.9%	91,452	25,054	37.7%
Total	359,108	481,064	121,956	34.0%	285,095	65,991	30.1%
Memo
Non-oil, non-bullion imports	233,082	298,335	65,253	28.0%	165,461	32,721	24.7%
Non-oil, non-bullion, non-diamond imports	200,324	255,994	55,669	27.8%	142,081	27,115	23.6%

Note: * Including all project goods.
Source: Monthly Foreign Trade Statistics of India (principal commodities & countries), Imports and Exports & Re-exports, Directorate General of Commercial Intelligence & Statistics, Government of India, September 2005.

The growth in the value of gold imports appears to be slowing through the course of 2005/06, perhaps in consequence of a perceived stabilisation of gold prices.

The growth in the value of gold imports appears to be slowing through the course of 2005/06, perhaps in consequence of a perceived stabilisation of gold prices. The rupee value of gold imports in October 2005 actually fell by 36 per cent compared to the same month in 2004 and the value of cumulative imports of the yellow metal in 2005/06 up to the end of October was 28 per cent higher than in the comparable period of the previous fiscal. If the trend continues, it is possible that the aggregate value of gold imports in 2005/06 may not exceed that of the previous year (Rs. 46,097 crore) by much, and may even be less.

Exports

In the first half of 2005/06, exports of manufactured goods rose much faster than did total exports. While the value of total exports rose 17 per cent, manufactured exports increased by 27 per cent, thus reinforcing the similar development during 2004/05.

Amongst manufactures the fastest expansion was in transport equipment, chemicals, machinery and dyes & intermediates. Iron & steel and plastics & linoleum products that were strong performers in 2004/05 saw export growth slide in the current fiscal. Export of petroleum refined products increased by more than 50 per cent. Except for rice and iron ore, exports of most other agricultural and mineral were modest to poor (Table 8.2). Table 8.2

Summary of Changes in the rupee value of Merchandise Exports

Financial years of 2003–04, 2004–05 and 2005–06 (April to September)

Unit: Rs. Crore

	2003/04	2004/05	Change in 2004/05 over previous year		First Half 2005/06	Change in Apr–Sep 2005/06 over comparable period in previous year

			Amount	%	Amount	Amount	%

Agricultural Products	34,619	35,963	1,344	3.7%	18,498	1,978	12.0%
Ores & minerals	10,885	18,848	7,963	42.2%	9,583	2,457	34.5%
Leather & manufactures	9,939	10,286	346	3.4%	5,246	−36	−0.7%
Textiles and products	58,779	56,677	−2,102	−3.7%	28,915	−188	−0.6%
Chemicals and products	40,777	50,482	9,706	19.2%	25,234	2,725	12.1%
Metals and products	25,726	42,255	16,530	39.1%	17,335	1,723	11.0%
Engineering goods	22,985	29,670	6,684	22.5%	18,239	4,381	31.6%
Other manufactured goods	89,660	118,055	28,394	24.1%	68,440	14,561	27.0%
Total	293,367	356,069	62,702	17.6%	191,545	27,668	16.9%
Agricultural & mineral produce
Oil meals	3,348	3,101	−248	−8.0%	1,267	−127	−9.1%
Marine products	6,106	5,695	−410	−7.2%	2,856	320	12.6%
Meat & meat preparations	1,714	1,734	20	1.2%	1,045	203	24.1%
Rice-basmati & non-basmati	4,168	6,642	2,474	37.2%	3,564	1,287	56.5%
Sugar	1,217	144	−1,073	−745.4%	60	−9	−13.5%
Tea and coffee	2,723	2,792	69	2.5%	1,463	25	1.7%
Wheat	2,391	1,448	−943	−65.1%	477	−555	−53.8%
Iron ore	5,173	11,815	6,642	56.2%	5,736	1,771	44.7%
Manufactured Goods
Apparel - cotton	22,009	20,521	−1,488	−7.3%	11,083	490	4.6%
Drugs & pharmaceuticals	15,213	16,681	1,468	8.8%	8,567	731	9.3%
Cotton yarn, fabrics, made ups	15,600	14,389	−1,211	−8.4%	6,928	−520	−7.0%
Iron and Steel	11,386	22,476	11,091	49.3%	6,725	−21	−0.3%
Machinery and instruments	12,757	15,695	2,937	18.7%	8,472	1,434	20.4%
Manufacture of metals	11,150	14,734	3,584	24.3%	7,787	1,038	15.4%
Plastic & linoleum products	8,054	13,243	5,189	39.2%	5,548	−109	−1.9%
Transport equipment	8,988	12,714	3,726	29.3%	8,847	2,781	45.8%
Manmade fibre/yarn/apparel	11,899	11,879	−20	−0.2%	5,617	−604	−9.7%
Inorganic/organic chemicals	5,293	6,765	1,471	21.7%	3,459	778	29.0%
Dyes & intermediates	4,710	5,101	390	7.7%	2,970	504	20.4%
Total Manufactured Goods	89,660	118,055	28,394	24.1%	68,440	14,561	27.0%
Select items categorised under “other manufactured goods” at the top of this table
Gems & jewellery	48,586	61,581	12,995	21.1%	33,441	5,295	18.8%
Other commodities	8,640	9,388	748	8.0%	6,908	2,302	50.0%
Petroleum refinery products	16,397	30,518	14,121	46.3%	20,183	6,858	51.5%
Electronic goods	8,294	8,106	−188	−2.3%	3,574	−370	−9.4%
Handicrafts	8,294	8,106	−188	−2.3%	3,574	−370	−9.4%

Source: As in Table 8.1.

End of MFA, Quotas and Textile Exports

The MFA and its associated quotas ended with effect from January 1, 2005. The WTO secretariat, the IMF and several others had predicted that China and India would win the post-quota sweepstakes and that the least developed nations were likely to suffer badly.

The Multi Fibre Arrangement (MFA) and its associated quotas ended with effect from January 1, 2005. The WTO secretariat, the IMF and several others had predicted that China and India would win the post-quota sweepstakes and that the least developed nations were likely to suffer badly. The argument was simple: the quota regime, by freezing market shares, permitted the less efficient—both in industrialised nations and in some of the least developed ones extended quota-free access—to sell, and hence the prevalent price was higher than what it might have been under free competition. The end of MFA would signal the removal of this rent, increase the gains from trade and allow the more efficient to expand market shares.

So, what has been the outcome? Chinese exports of textiles rose by 22.6% in the period January-October 2005 over the corresponding period of 2004. Her textile exports to the USA rose by 48% in this period and her market share rose from an already formidable 20% to 28%. In 2004 some vulnerable quota-exempt developing countries, anticipating economic hardship from a severe decline in their textile exports, had argued for the extension of MFA quotas, and China had offered voluntary export restraint. While it is doubtful if the latter came to happen, the facts suggest that the pessimism in regard of the least developed countries was overdone.

In January-October 2005, imports of textiles into the USA from Cambodia rose by 18% and that from Bangladesh by over 17%. Amongst other developing country gainers in the US market were Peru (up 20%), Jordan (up 18%), Indonesia (up 17%), Pakistan (up 11%) and Sri Lanka (up 8%). Textile exports from Vietnam and Thailand to the USA failed to expand, and some Central American and Caribbean nations experienced some declines. However, the principal losers, as expected, were industrialised economies, namely Hong Kong, Taiwan and South Korea.

US imports of Indian textiles increased by 23% during January-October 2005 and India's market share rose from 4.6% to 5.3%. The DGCI&S data for the period April-September 2005 shows that India's exports of textile items actually fell by 0.6%, which is of course, afar cry from China's global textile export growth of 22.6%.

How did India fare? US imports of Indian textiles increased by 23% during January-October 2005 and India's market share rose from 4.6% to 5.3%. The DGCI&S data for the period April-September 2005 shows that India's exports of textile items actually fell by 0.6%, which is of course, a far cry from China's global textile export growth of 22.6%. Even as the April-October data shows textile exports having risen 3.3 per cent, the lag with respect to China is very considerable, and is compounded by the fact that textile exports from China are 10 times as large as that of India.

Two criticisms could be levelled at this conclusion. First, that there has been price pressure emanating from China and as a result the value of exports does not necessarily mirror the volume of exports. Second, that the DGCI&S data is under-reporting textile exports.

In the absence of an alternative data set, it is not possible to arrive at any conclusion other than that India's exports of textiles in the post-M FA period has not grown by much.

The difference between value and volume does not matter in this context, since the comparisons made across markets and suppliers are all in value (nominal) terms. In regard of the issue of the quality of DGCI&S data, both the Ministries of Textiles and that of Commerce & Industry have been reported to have said that actual imports were being under-reported by DGCI&S in some way, but no estimate of the extent of this under-reporting has yet been made public. In the absence of an alternative data set, it is not possible to arrive at any conclusion other than that India's exports of textiles in the post-MFA period has not grown by much. Even if it turns out that textile exports were indeed higher than reported, it is most unlikely that the order of revision would be such that the situation as delineated here will need to be revised significantly.

The DGCI&S data on India's textile exports actually tells us much more. We have examined what the export growth was in the formerly quota restricted markets—the USA, Western Europe and Canada—and what it was elsewhere, in respect of two key items— cotton yarn, fabrics & made-ups and cotton apparel that comprise over 60% of India's textile exports.

Exports of these two items to the formerly quota restricted markets actually increased by 13.5% during the period April-Sept 2005. But that to the formerly non-quota region fell sharply. Our exports of these two items to markets in West, South, S.E. and East Asia (excluding Japan) fell by as much as 22%. For the record Asia has been amongst our fastest growing markets and accounted for 23% of our cotton textile exports last year. Exports to African markets were down 16% and that to Russia and Eastern Europe lower by 40%. In industrialised countries that were not quota restricted, large declines have also occurred—as in Switzerland and Australia. The only formerly non-quota market to register an increase was Latin America (up by 11%). Overall our exports to non-quota markets were lower by 20% (Table 8.3). Table 8.3

Indian exports of two key textile items by market-April/Sept 2005/06

Unit: Rs. in crore

Countries	Cotton Yarn, fabrics & Made-ups		RMG of Cotton		Total		Increase

	2004–05	2005–06	2004–05	2005–06	2004–05	2005–06

USA	1,282	1398	3,243	3,505	4,525	4,903	8.3%
UK	351	282	1,008	1,452	1,359	1,733	27.6%
Germany	318	268	780	984	1,098	1,251	14.0%
France	173	183	683	787	856	969	13.3%
Canada	120	108	460	339	580	447	−22.9%
Italy	368	396	412	502	780	898	15.2%
Holland	69	87	383	377	452	464	2.6%
Spain	141	154	242	465	383	620	61.8%
Belgium	95	104	131	128	226	232	2.8%
Denmark	34	35	155	246	189	281	48.5%
Sweden	72	73	76	72	147	144	−2.2%
Portugal	98	108.	15	26	113	134	18.7%
Ireland	10	14	80	110	89	124	38.9%
Norway	27	32	32	31	59	63	8.2%
Finland	12	17	46	93	58	109	88.0%
Greece	29	33	21	37	50	69	38.1%
Austria	34	24	13	15	47	39	−16.7%
Sub-total former
MEA countries	3,232	3,314	7,778	9,166	11,010	12,480	13.4%
Sub-total former
non-MFA countries	4,060	3,485	2,596	1,812	6,655	5,297	−20.4%
Total	7,292	6,799	10,373	10,978	17,665	17,777	0.6%
Break up of former non-MFA markets
West Asia	707	632	1,273	878	1,980	1,510	−23.7%
Africa	860	701	148	142	1,008	844	−16.2%
Russia & Eastern Europe	140	176	301	89	441	265	−39.8%
Latin America	175	213	158	158	333	371	11.4%
South and SE Asia	939	740	263	186	1,202	926	−23.0%
East Asia (excl Jap. & Kor.)	558	390	26	31	584	420	−28.1%
Korea, South	354	367	4	5	358	372	4.0%
Japan	186	151	146	182	332	333	0.2%
Switzerland	21	18	187	67	208	85	−59.3%
Australia	113	91	76	70	189	161	−14.7%

Source: As in Table 8.1.

Non-quota markets had absorbed the spill-over from the quota restricted market. Not surprisingly the going was tougher and the margins thinner. With the removal of quotas, exporters would naturally have been inclined to focus on opportunities opening up in North America and Europe. It is conceivable that a switching of products from less profitable to more profitable markets could result with the end of quotas. However, this behaviour would only be expressed where the exporting industry was constrained by capacity. In the presence of excess capacity, exporters would have sought to protect their hard-won market share in the formerly non-quota markets, while seeking to expand business in Europe and North America.

However, the fact that switching seems to have occurred is clear indication that India's domestic capacity is stretched. In consequence, not only does it appear that India has not been able to fully harvest the opportunities that the removal of quotas offered, but she also seems to have yielded space in other important markets. This experience highlights yet again the relative inability of India to seize on opportunity. This stems from the inadequacies in the capacity to execute—decisions, projects, whatever. What afflicts the Indian producer is not a shortage of sops, but of infrastructure and employment conditions conducive to modernise and to expand.

Direction of Trade

In Table 8.4 we have presented Indian's exports to, imports from and trade balances (in rupee terms) with principal countries/economic regions and followed this up at Table 8.5 with a listing of the top 100 countries by total (exports + imports) value of trade in the first six months of 2005/06. Import volumes exclude crude petroleum products. Table 8.4

Export, Import and Merchandise Trade Balances By Geographic Regions-April to September

Unit: Rs. Crore

	Exports		Imports		Trade Balance

	2004–05	2005–06	2004–05	2005–06	2004–05	2005–06

Total-Global	162,390	190,813	152,550	192,691	9,840	−1,877
China	7,228	10,495	13,624	18,558	−6,396	−8,063
Hong Kong	7,613	9,670	3,344	4,565	4,269	5,105
South Korea	2,069	3,085	6,456	7,834	−4,386	−4,749
Japan	3,886	4,507	6,094	6,637	−2,209	2,131
Taiwan	1,217	1,184	2,139	2,744	−922	−1,561
Sub-total East Asia	22,328	29,006	31,662	40,339	−9,335	−11,333
USA	29,745	32,249	12,633	14,825	17,112	17,424
Canada	1,824	1,899	1,200	1,707	624	191
North America	31,569	34,148	13,833	16,532	17,736	17,615
Euro-zone	26,354	30,190	26,148	33,213	206	−3,023
Western Europe	36,072	42,538	46,683	60,751	−10,611	−18,213
West Asia	27,249	29,441	15,499	21,284	11,750	8,157
S E Asia	16,356	20,238	18,603	19,603	−2,247	635
South Asia	9,613	10,724	2,896	3,548	6,716	7,177
Africa	9,832	12,878	7,332	8,905	2,500	3,973
Latin America	4,063	6,068	3,825	4,799	238	1,269
Oceania	1,742	2,035	7,527	10,030	−5,785	−7,996
FSU+EE	3,566	3,739	4,688	6,900	−1,122	−3,161

Note: The trade data does not include crude petroleum and refined products for the most part.
Source: As in Table 8.1.

Table 8.5

Export, Import and Merchandise Trade Balances

Top 40 Countries by total bi-lateral trade (exports + imports) - in descending order

Unit: Rs. Crore

		Exports		Imports		Trade Balance

		2004–05	2005–06	2004–05	2005–06	2004–05	2005–06

1	USA	29,745	32,249	12,633	14,825	17,112	17,424
2	China, PR	7,228	10,495	13,624	18,558	−6,396	−8,063
3	UAE	14,107	15,042	7,312	10,705	6,795	4,337
4	U.K.	7,252	9,439	6,747	8,007	505	1,432
5	Switzerland	1,085	964	10,775	16,475	−9,690	−15,511
6	Singapore	7,599	11,576	5,070	5,834	2,529	5,742
7	Germany	5,724	6,334	7,535	10,935	−1,811	−4,601
8	Belgium	5,217	5,552	9,433	10,953	−4,216	−5,401
9	Hong Kong	7,613	9,670	3,344	4,565	4,269	5,105
10	Australia	1,488	1,623	7,272	9,745	−5,784	−8,122
11	Japan	3,886	4,507	6,094	6,637	−2,209	−2,131
12	South Korea	2,069	3,085	6,456	7,834	−4,386	−4749
13	South Africa	2,142	3,037	3,787	5,331	−1,645	−2,294
14	Italy	4,255	4,478	2,703	3,320	1,552	1,158
15	Indonesia	2,543	2,228	5,547	5,252	−3,004	−3,024
16	France	3,494	4,254	2,495	2,954	999	1,300
17	Malaysia	2,445	2,032	4,631	4,541	−2,186	−2,509
18	Saudi Arabia	3,001	3,676	2,411	2,874	590	802
19	Netherlands	2,982	4,238	1,495	2,096	1,487	2,142
20	Russia	1,299	1,384	2,698	4,079	−1,399	−2,695
21	Sri Lanka	2,731	4,046	572	1,009	2,159	3,037
22	Brazil	1,285	2,631	1,320	2,168	−36	463
23	Israel	2,332	2,542	1,896	2,161	436	381
24	Thailand	1,685	2,036	1,629	2,290	56	−255
25	Taiwan	1,217	1,184	2,139	2,744	−922	−1,561
26	Spain	2,496	2,874	776	1,038	1,720	1,836
27	Canada	1,824	1,899	1,200	1,707	624	191
28	Iran	2,496	2,099	726	1,336	1,770	763
29	Bangladesh	3,133	3,060	90	156	3,043	2,904
30	Sweden	487	587	2,299	2,056	−1,812	−1,469
31	Nepal	1,767	1,603	740	784	1,027	819
32	Turkey	1,498	1,804	319	440	1,179	1,364
33	Ukraine	457	458	986	1,566	−529	−1,108
34	Qatar	236	346	1,254	1,662	−1,018	−1,316
35	Argentina	228	406	1,237	1,459	−1,009	−1,053
36	Egypt	851	1,179	385	562	466	617
37	Nigeria	1,216	1,472	152	152	1,064	1,321
38	Kuwait	900	1,001	441	614	459	387
39	Pakistan	1,122	1,193	188	325	934	868
40	Denmark	606	745	519	701	87	44
41	Philippines	807	975	449	423	357	552
42	Vietnam	997	1,095	186	230	811	865
43	Myanmar	229	234	1,091	1,031	−862	−797
44	Myanmar	229	234	1,091	1,031	−862	−797
45	Finland	287	389	768	815	−481	−426
46	Jordan	237	336	750	818	−514	−482
47	Oman	588	748	33	389	555	359
48	Kenya	899	928	93	100	806	828
49	Greece	654	888	49	94	605	794
50	Chile	240	280	730	664	−490	−384
51	Mexico	813	771	152	165	661	606
52	Austria	263	267	579	625	−317	−358
53	Ivory Coast	106	365	521	512	−415	−147
54	Colombia	656	853	18	10	638	843
55	Ireland	445	428	248	305	197	123
56	Sudan	497	652	63	62	434	590
57	Senegal	74	310	399	395	−326	−85
58	New Zealand	196	351	255	283	−60	68
59	Bahrain	314	415	189	213	125	202
60	Morocco	236	231	617	383	−381	−152
61	Algeria	422	559	14	32	408	526
62	Poland	351	379	230	189	121	190
63	Ghana	352	351	149	208	202	143
64	Yemen	519	538	92	19	427	519
65	Norway	212	262	187	293	26	−31
66	Czech	166	182	332	372	−167	−190
67	Syria	531	519	12	8	519	511
68	Portugal	514	468	41	56	473	412
69	Benin	96	277	235	243	−139	34
70	Tanzania	351	412	129	78	223	335
71	Mauritius	391	389	19	13	372	376
72	Bhutan	204	197	132	172	72	25
73	Mozambique	144	258	29	105	116	154
74	Tunisia	134	153	222	209	−88	−56
75	Djibouti	227	330	7	9	219	321
76	Malta	37	330	2	0	35	330
77	Afghanistan	332	256	84	68	248	188
78	Serbia-Monte.	74	310	14	0	59	310
79	Libya	107	248	4	18	103	230
80	Congo	181	171	34	86	146	86
81	Hungary	257	183	76	56	182	127
82	Zambia	85	131	43	88	42	43
83	Peru	115	157	112	60	3	97
84	Kazakhstan	183	166	36	45	147	121
85	Slovenia	153	163	37	43	116	121
86	Venezuela	145	193	11	12	135	181
87	Panama	120	122	31	66	89	56
88	Iraq	295	183	2	4	293	180
89	Uganda	172	164	18	6	154	158
90	Guinea	111	126	101	44	10	81
91	Lithuania	68	60	20	105	48	−45
92	Lebanon	142	134	53	31	90	103
93	Trinidad	75	161	47	2	28	159
94	Angola	123	157	2	5	121	152
95	Mauritania	48	144	4	0	44	143
96	Uzbekistan	40	46	52	94	−13	−49
97	Maldives	95	135	1	3	94	132
98	Madagascar	71	100	8	39	63	61
99	Ethiopia	113	115	17	15	96	100
100	Georgia	72	74	44	47	28	27

Source: As in Table 8.1.

<italic>Bilateral Trade Volumes</italic>

The largest regional source of non-oil imports for India is Western Europe, followed by East Asia; West and South East Asia follow closely thereafter. The biggest destination for Indian exports continues to be Western Europe, followed by North America.

The largest regional source of non-oil imports for India is Western Europe, followed by East Asia; West and South East Asia follow closely thereafter [see Table 8.4]. The biggest destination for Indian exports continues to be Western Europe, followed by North America. Export levels to West Asia and East Asia are at comparable levels. Merchandise trade with China and Hong Kong combined has been mostly balanced—comprising a deficit with China and a surplus with Hong Kong—making for an overall deficit in the first half of 2005/06.

The largest trade partner country continues to be the US, followed by China, the UAE and the United Kingdom. The massive trade deficit and its increase with Switzerland stem from the fact that the bulk of the increase in gold imports was routed through Switzerland.

The largest trade partner country continues to be the US, followed by China, the UAE and the United Kingdom (Table 8.5). The massive trade deficit and its increase with Switzerland stem from the fact that the bulk of the increase in gold imports was routed through Switzerland. A large part of the imports from Belgium comprises uncut diamonds.

The biggest year-on-year increases in bilateral trade during the first half of 2005/06 were in:

Brazil (84 per cent);

Sri Lanka (53 per cent);

Switzerland (47 per cent);

Netherlands (41 per cent);

South Africa (41 per cent);

Egypt (41 percent);

China (39 percent);

Singapore (37 per cent);

Russia (37 per cent);

Germany (30 per cent):

Australia (30 per cent):

South Korea (28 per cent);

Argentina (27 per cent);

United Kingdom (25 per cent);

UAE (20 per cent).

[Section closed on January 14, 2006]

Macro-Overview