In 2023, India emerged as the most populous country globally and stands resilient against the prevailing global economic slowdown. Though its growth is projected to ease slightly over the coming decade, India is foreseen to maintain its pivotal role as a significant contributor to worldwide economic expansion. Insights for What’s Ahead
- Despite the challenging global economic conditions, the Indian economy remains comparatively robust, with an anticipated GDP growth of approximately 6 percent in the calendar year 2023 and around 5 percent in 2024. These growth rates significantly surpass those of other major economies.
- Over the next decade, growth in India is predicted to moderate, averaging around 4.5 percent annually. This slowdown is mainly attributed to a reduced pace of capital accumulation and productivity growth. Nevertheless, India is poised to maintain its crucial role as a major propeller of global economic expansion. The continuous expansion of the Indian market is anticipated to present abundant growth opportunities for global businesses.
India Growth Story: Short-Term Outlook
In 2023, the Indian economy is experiencing robust growth. Real gross domestic product (GDP), a comprehensive measure of expenditures on goods and services, rose by 6.1 percent in the first quarter compared to the same period last year, showing an acceleration from the 4.5 percent growth recorded in the previous quarter (refer to Chart 1). This growth was primarily driven by increased investments (represented by the green bar in the chart) and net exports (represented by the yellow bar). In contrast, the contributions from private and government consumption (represented by the light blue and black bars, respectively) were relatively subdued.
Looking ahead, the short-term growth prospects seem encouraging. It is expected that the second quarter of 2023 will experience further expansion, primarily attributed to the low base effect from the previous year. However, growth may subsequently moderate to around 5 percent year over year. Recent economic activity indicators, such as the purchasing manager indices and The Conference Board Leading Economic Indicator for India, indicate sustained growth in the near future.
The government’s capital expenditures continue to support investment, while labor market improvements contribute to private consumption growth, with rising employment rates, especially among women, and declining inflationary pressures. Additionally, the agricultural sector, which employs more than 40 percent of the Indian workforce, is expected to provide further support, as forecasts predict a record harvest, particularly for wheat, and a normal monsoon season. It is worth noting that the possibility of an El Nino weather pattern presents a risk to this outlook.
In terms of trade, India witnessed a strongly positive net trade position in the first quarter. However, this may moderate somewhat throughout 2023, as certain parts of the global economy are slowing down. Nonetheless, India’s services exports continue to thrive. Furthermore, India being a net commodity importer, lower commodity prices in 2023 (compared to 2022) could enhance growth prospects, as they reduce costs and improve the trade balance. For example, the forecast for Brent oil prices indicates an average of 84 dollars in 2023, down from 99 dollars in 2022. This trend is expected to impact the economy positively.
Several critical factors warrant close attention in the near term, as they have the potential to either enhance or impede economic momentum in the second half of 2023 and beyond:
Commodity Price Fluctuations:
a. Downside: If commodity prices, especially for energy, rise unexpectedly, it could elevate costs and rekindle inflationary pressures, ultimately slowing down economic expansion. This increase in commodity prices may be triggered by a further escalation of the war in Ukraine, a factor that drove prices higher in 2022, or if oil-producing nations implement more aggressive production cuts.
b. Upside: While there is some expected upward pressure on oil prices in 2023, it is not projected to reach levels that would negatively impact Indian firms and the overall economy. India is anticipated to continue benefiting from favorable terms on oil imports from Russia. Moreover, an escalation of the war in Ukraine is not assumed in the base case scenario.
Weather Uncertainty:
a. Downside: Adverse weather conditions represent a downside risk that could affect agricultural output and food prices, subsequently having ripple effects on other sectors of the economy. India is particularly vulnerable to extreme weather events, such as floods and droughts, which have been experienced in recent years. The potential occurrence of an El Nino weather pattern also poses risks due to higher temperatures affecting crop yields.
b. Upside: Official forecasts indicate expectations for a normal monsoon season and an above-average harvest in 2023, reducing the likelihood of this downside risk materializing.
Inflationary Pressures:
a. Downside: A surge in inflation, although not foreseen, could hinder growth by dampening consumption and domestic investment, especially if monetary policy is further tightened.
b. Upside: As of March (headline) and April (core) of 2023, both headline and core inflation (excluding food and energy) have fallen below the central bank’s upper target of 6 percent. This disinflationary trend is expected to continue, leading to the base case scenario of a further pause in the tightening cycle and the possibility of first-rate cuts in late 2023 or early 2024.
The year 2024 is expected to witness a slight deceleration in economic growth. For the entire calendar year 2023, real GDP growth is projected to be approximately 6 percent, marking the fastest rate among major economies for the third consecutive year. However, the growth rate is likely to downshift slightly to around 5 percent in 2024. This downward trend in growth primarily results from the waning impact of catch-up growth after the significant recession caused by the pandemic in 2020. Importantly, this downshift in growth does not indicate a substantial deterioration in the overall economic outlook.
In essence, the anticipated growth rate for the following year suggests that India’s economy is returning closer to its longer-term potential. It is estimated that the country’s annual growth over the next decade will be around 4.5 percent. While the pace of growth might moderate in 2024, the economic outlook remains reasonably positive, with growth expected to be steady, albeit at a slightly slower rate compared to the preceding years.
It is important to note that economic forecasts are subject to various factors and uncertainties, and as the situation evolves, actual growth rates may vary. Nonetheless, the projected downshift in growth is primarily attributed to the normalization of the economy following the pandemic-induced recession, rather than any significant negative changes in the overall economic prospects.
India Growth Story: Long-Term Outlook
Projections for economic growth in India over the next decade indicate a moderate slowdown when compared to the growth rates experienced before the pandemic. During the first two decades of the 2000s, India’s economy saw an average annual growth of about 7 percent. However, the period encompassing the pandemic recession and the subsequent recovery (2020-2023) led to a significant reduction in the average annual growth rate, settling at approximately 4 percent.
Looking ahead, the forecasts for the coming decade suggest a slight improvement, with an estimated annual growth rate of about 4.5 percent. These projections are derived from the analysis of various supply-side drivers that influence economic growth, including labor, capital, and total factor productivity (TFP).
The projections highlight that the economy is expected to regain some momentum compared to the immediate post-pandemic period. However, the growth rate is still projected to be lower than the pre-pandemic levels, indicating a moderate slowdown. Factors such as labor availability, capital investment, and overall productivity will play crucial roles in shaping the growth trajectory of the Indian economy in the upcoming years.
In the previous decade, India’s demographic dividend, represented by the yellow and light blue bars, did not significantly boost economic growth. Despite having a large and youthful population, the effective labor supply in India was restricted due to low labor force participation rates, particularly among women. The proportion of the working-age population (aged 15–64) actively engaged in either the formal or informal sectors was only around 50 percent, which is considerably lower than the labor force participation rates observed in most other economies worldwide (about 70 percent in Europe and the US and approximately 65 percent in China).
Moreover, labor force participation rates in India were on a declining trend since 2005, particularly for women, which further hampered the utilization of the country’s demographic advantage.
During this period, the decline in agricultural employment, primarily driven by a shift from subsistence farming and rural-to-urban migration, was partially offset by job creation in other sectors, especially construction. Despite the ongoing increase in the working-age population, the contribution of this expanding labor force to GDP growth during the years 2011-2019 remained minimal. Labor quantity growth in India was notably below that of most other economies globally, including the US and Europe, and the region, with exceptions like Japan and China.
However, there has been a positive development since 2020-2023, with employment rates showing signs of improvement, particularly for women. Labor force participation rates have started gaining traction during this period, indicating a potential shift towards better utilization of the demographic dividend.
Capital accumulation has been the primary driving force behind India’s economic growth, as indicated by the red bars in Chart 2. Over the past two decades, capital inputs have accounted for nearly two-thirds of real GDP growth. However, growth in capital inputs and investment rates has been slowing down across various industries since around 2012. This deceleration can be attributed to factors such as declining long-term saving rates, balance sheet crises faced by banks and construction companies, and an unfavorable global trade and investment environment following the Global Financial Crisis of 2008/09.
While public investment has remained relatively stable, it was private investment that suffered the most from these adverse trends. Consequently, during the pandemic period of 2020-2023, capital’s contribution to average annual GDP growth was around 3 percentage points, compared to about 4.5 percentage points in the preceding decades.
Looking ahead to the next decade, capital is expected to continue being the dominant driver of growth, albeit at a slower rate than before, leading to overall slower GDP growth. Private investment may remain subdued due to uncertainty and unpredictability in economic policies, coupled with persistently low saving rates. Furthermore, improvements in the labor supply may result in a lesser need for significant capital investments than otherwise required.
Achieving a much faster growth trajectory would necessitate a sustained industrialization drive, which is considered unlikely. Nevertheless, despite the slower rate of capital input growth compared to its historical performance, India’s overall growth rate remains impressive in comparison to richer economies, showcasing the country’s ongoing development and catching-up potential.
Another significant contributor to growth is Total Factor Productivity (TFP), represented by the green bars in Chart 2. Over the last decade, TFP growth has played a significant role in driving India’s economic expansion, in contrast to most mature and emerging economies where TFP contributions were negligible during the same period. TFP growth has been relatively robust across various sectors in India, with the agricultural sector showing particularly strong performance.
The positive contribution from TFP growth is expected to continue over the next decade, although its growth rate may moderate somewhat compared to the pre-pandemic period. This moderation could indicate some lingering impact of the pandemic period (2020-2023) when TFP growth turned negative.
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