Why India's economy is showing signs of a recovery despite pandemic-induced headwinds

The country's GDP grew by 20 per cent in the second quarter but analysts fear a third wave of Covid-19 infections could derail the fragile economy as festival season begins

India's economy is beginning to recover from the pandemic and the festival season traditionally gives a boost to consumer-dependent sectors. EPA

India's economy is showing signs of bouncing back as the country's festive season gets under way, which traditionally gives a boost to consumer-dependent sectors. But analysts say there is still a way to go for a full recovery and risks remain amid fears of another possible surge in Covid-19 infections.

“While green shoots are visible in certain sectors of the economy, we cannot still be very confident that the worst is over for the economy as a whole,” says Jyoti Prakash Gadia, managing director of investment bank Resurgent India.

The latest government data shows India's gross domestic product grew by 20.1 per cent in the April to June quarter. This compares to a low base during the same period in 2020, when the country imposed one of the world's strictest nationwide lockdowns in response to the pandemic, pushing the country into a recession.

The GDP growth came despite the fact India was grappling with a deadly second wave of Covid-19 infections earlier this year, which forced state governments to impose local lockdowns. However, economic activity was not hampered to the same degree as last year.

India's economic growth will be strong over the coming quarters, ratings agency S&P Global said on Wednesday. However, it warns inflation is likely to remain elevated.

It also added that the pace of recovery will determine its next rating action over the next 24 months. S&P's current rating for India is BBB-, which is one grade above junk status. In the current financial year, S&P is forecasting growth of 9.5 per cent for India.

“High frequency key economic indicators in the last couple of months in the forms of GST [goods and services tax] collection, railway freight, auto sales, power consumption, import-export data indicate a sustained economic recovery on year-on-year comparison,” Binod Modi, the head of strategy at Mumbai-based Reliance Securities, says.

The country's services industry also returned to growth in August with a reading of 56.7 compared with 45.4 in July, according to IHS Markit Purchasing Managers' Index. A reading above 50 represents expansion, while anything below points to a contraction.

The services sector expanded at its fastest pace since the pandemic started and it is the first time in four months it has grown. IHS Markit attributed the expansion to businesses reopening and improved confidence as the pace of India's Covid-19 vaccination drive has picked up.

As a result, many companies are hopeful this year's festive season will be better than last year. This is traditionally a time when Indians splash out on big purchases, ranging from new televisions to homes.

The 10-day Ganesh Chaturthi celebrations – for the elephant-headed Hindu god Ganesh – kicked off the season on Friday and the festivities will peak with Diwali in November.

“Unlike last year, festive demand is expected to be stronger this year as the economy has opened up and the vaccination programme has also ramped up significantly,” Mr Modi says.

This bodes well for the brick-and-mortar retail sector, which has been hard hit by the pandemic as non-essential shops in many parts of the country were forced to close during lockdowns.

“It definitely was the toughest time for the business,” says Harkirat Singh, managing director of Aero Club, which owns Indian footwear brand Woodland and operates hundreds of stores across the country. “This festive season, we expect good profit in our business.”

The population has largely adapted to the “new norm” of the pandemic and the festive season “will be a hit” for his business, Mr Singh says.

“There's a lot of pent-up demand, which will boost consumption ,” says Amit Jain, co-founder and chief executive of Mumbai-based Ashika Wealth Advisers. “If you go to marketplaces in India, you will see they are flooded with buyers.”

But some business owners are concerned about consumers' willingness to spend in the current environment.

“The festive season definitely brings a lot of colour to the market in terms of spending,” says Avneet Singh Marwah, chief executive at SPPL, India's largest TV manufacturer. “However, in light of this continuing pandemic, things will be slightly different.

“People ended up spending much of their disposable income or savings on healthcare during the second wave of the pandemic and since then, there has been a large void in spending,” he says, adding that sentiment among consumers is generally weak.

Mr Marwah is also worried about the uncertain outlook.

“It is very difficult to predict if the worst is over for India,” he says. “It was the second wave of Covid-19 that took a toll on the Indian economy. We cannot say how the third wave will affect the economy.”

Experts have already cautioned about an impending third wave in India, largely due to citizens gathering in groups to celebrate the festive period.

“The immediate risk is a possible third wave of Covid 19,” Mr Gadia says. “Any further lockdowns hampering economic activity will prove disastrous.”

There are varied performances across different sectors of the economy in India, which means that it is still too early to be calling a full recovery, analysts say.

“The growth for several industries still remains below pre-pandemic levels,” Srividya Kannan, founder and director of Bangalore-based consultancy Avaali Solutions, says.

“While manufacturing and construction registered the largest year-on-year growth, the growth numbers were themselves on a much smaller base. Other businesses including hotels, trade and transportation are still reeling from the impact of the second wave of the pandemic.”

While the outlook for the sector remains positive, Covid-19 still remains a threat to the economy, Rajendra Joshi, chief executive of residential at real estate company Brigade Enterprises, says.

“The festive season will definitely create more demand in the sector … we are optimistic that the real estate sector will rebound to pre-Covid levels,” Mr Joshi says.

However, companies like Brigade are facing other challenges.

“From a real estate perspective, high raw material prices have been a pain point for not only us but also other developers across the country,” he adds. “Cost of materials, labour and increased regulatory compliance eat into operating margins.”

For small businesses, it is even more difficult to manage the double impact of subdued demand and rising expenses.

Salman Beg runs a small stainless steel factory in Mumbai, manufacturing products including cups and plates.

“The situation we're in is really tough,” he says. “With the prices of diesel and petrol also rising, it has affected my business, too.”

Inflation in India remains high, with supply chain disruptions further pushing prices up. But official figures show that retail inflation eased to a three-month low of 5.59 per cent in July and is expected to remain steady when the data for August is released on Monday.

“There is a push-pull effect on Indian inflation,” says Vijay Bhambwani, head of research for behavioural technical analysis at Equitymaster, a research company.

“On the one hand, you have rising prices due to lower supply and on the other, there has been lower consumer spending. Right now, things are balancing out. Any pick up in consumer spending can trigger higher inflation.”

Given the fragility of the economy, the Reserve Bank of India does not have scope to hike interest rates in the near term to bring inflation under control, analysts say.

“In our view, ease of supply side issues post opening of the complete economy and least possibility of a further sharp spike in oil prices means that inflation is unlikely to pose a big challenge,” Mr Modi, of Reliance Securities, says.

For now, however, what happens with the pandemic in India is a much bigger concern.

“In case the possible third wave is avoided and sectors are not constrained by any future lockdowns, a sustainable economic growth path can be achieved,” Mr Gadia says.