The primary yardstick that analysts use to measure the economy’s health is GDP. Economists, technocrats and journalists cite GDP numbers when crafting their narrative about how well the economy is recovering from the pandemic. The Reserve Bank of India and multilateral agencies use GDP statistics to make claims about the future growth path. Yet no one seems to be asking the most important question: How reliable are the Indian GDP data?
The CSO released the current GDP series in 2015, using 2011-12 as its base year. Since then, the new series has been embroiled in controversy. Scholars have pointed to measurement problems, both in the nominal GDP numbers and the real GDP growth rates. Yet none of those problems has been addressed by the CSO, to the best of our knowledge. As a result, the measurement errors still persist.
There are three major reasons why the GDP data, and hence any narrative of economic recovery based on it, are questionable.
First, the growth rate of real GDP is contaminated by the "double deflation problem". Simply put, the CSO calculates real GDP by gathering nominal GDP data in rupees and then deflating this data using various price indices. The nominal data needs to be deflated twice: once for outputs and once for inputs. But the CSO – almost uniquely amongst G20 countries – deflates the nominal data only once. It does not deflate the value of inputs.
To see why this is a problem, consider what happens when the price of imported oil goes down. In that case, input costs will fall and the profits recorded by Indian firms will rise. This increase in profits is merely the result of a fall in input prices, so it needs to be deflated away. After all, GDP is meant to measure the amount of production in the country, which hasn’t changed, at least in the first instance.
But the CSO doesn’t deflate away the increase in profits. Instead, it records a purely nominal increase as a real increase in GDP, thereby overstating growth. Simulations have shown that this effect can be substantial. For further information, see my article here.
Since the cost of inputs is measured by the WPI, a crude measure of the overestimation caused by the absence of "double deflation" is given by the gap between the WPI and the CPI. In the 2014-2017 period, oil prices plunged, causing the WPI to fall sharply relative to the CPI. This meant that real growth was probably overstated.
In the last few months, the exact opposite has been happening. WPI inflation is soaring, reaching 14 percent in November, while CPI inflation has "only" been 5 percent. The rapid increase in the WPI relative to the CPI is imparting an upward bias to the deflator, which increased at the remarkable rate of 8 percent in the second quarter of 2021-22. If this deflator is being overestimated, then real GDP growth rate could be underestimated right now.
A second reason why growth might be underestimated is that the CSO has not updated the sectoral weights. When the CSO calculates GDP, it takes a sample of activity in each sector, then aggregates the figures by using sectoral weights. To make sure that the weights are reasonably accurate, the CSO normally updates them once a decade. It has now been more than 10 years since the weights were changed, and there are no signs of a base year revision. As a result, the sectoral weights are still based on the structure of the economy in 2010-11, when in particular the information technology sector was much smaller. In other words, the fast-growing IT sector is being underweighted, which implies that GDP growth is being underestimated.
But before we jump to conclusions, we need to take into account the third measurement problem – which works in the opposite direction. Measurement of the unorganised sector has always been difficult in India. Once in a while, the CSO undertakes a survey to measure the size of the sector. In the meantime, it simply assumes that the sector has been growing at the same rate as the organised sector. This practice was working well when the two sectors were moving in tandem.
However, starting in 2016 the large unorganised sector has been disproportionately impacted by a series of shocks. First came the demonetisation shock of 2016, which was a severe blow to cash-dependent firms in this sector. Next came the implementation of the Goods and Services Tax (GST) from 2017 onwards, which necessitated a particularly difficult and costly adjustment for unorganised sector enterprises. Then in 2018 came serious problems in the NBFC sector, in turn creating problems for unorganised sector firms, since they were heavily dependent on NBFCs for funding. Finally, the Covid pandemic from 2020 onwards was undoubtedly a much bigger shock for the unorganised sector, compared to the organised sector enterprises.
Despite these severe shocks, the CSO does not seem to have made any adjustments to their methodology for estimating unorganised sector growth. They apparently continue to assume that unorganised sector enterprises have been growing as fast as those in the organised sector. In that case, there would be an upward bias to reported GDP growth.
So, what is the bottom line? Can we say whether the latest GDP numbers overstate or understate growth? The answer is no, because the measurement problems go in different directions. Without more information from the CSO on their methodology we cannot say whether the positive factors outweigh the negative one, or vice versa. But what we can be clear about is that there are serious problems with India’s GDP data. Hence any analysis of recovery or any forecast of future growth of the Indian economy based on this data must be taken with a handful of salt!
No comments:
Post a Comment