With the revival of sentiment and picking up of industrial activity, an incipient upturn in private investment is expected to help broaden the recovery helped by a large Terms of Trade gain (about 2.5 percent of GDP), positive policy actions, and reduced external vulnerabilities, the IMF said.
The IMF projections came in a report on its Executive Board’s Article IV annual bilateral discussions following a visit by a staff team on February 12.
Since late 2014, a collapse of global oil prices has boosted economic activity in India and underpinned a further improvement in the current account and fiscal positions, and engendered a sharp decline in inflation, the report noted.
“A range of supply-side measures (including release of surplus grain buffer stocks) and an appropriate monetary stance have also contributed to the decline in inflation, from an average of about 9.5 percent during 2011-13 to 5.6 percent in December 2015,” it said.
Due to its further-reduced vulnerabilities and improved growth prospects, India has experienced large foreign direct investment inflows in 2015.
As a result, and in conjunction with the continued much-smaller current account deficit (largely due to continued low global commodity prices), international reserves have increased by $46.7 billion since end-March 2014, standing at $350.4 billion at end-December 2015 (around 8 months of import cover).
Nonetheless, persistently high household inflation expectations and large fiscal deficits remain key macroeconomic challenges, resulting in limited policy space to support growth through demand management measures, the report said.
Furthermore, anaemic exports as well as headwinds from weaknesses in India’s corporate financial positions and public bank balance sheets weigh on the economy, the report said.
Higher public infrastructure investment and government initiatives to tackle supply-side bottlenecks and repair corporate and public bank balance sheets should also help crowd-in private investment, it said.
The IMF Executive Directors commended Indian authorities for their appropriate policy actions that — along with favourable Terms of Trade — have underpinned India’s improved economic performance and reduced external vulnerabilities.
They welcomed in particular recent measures aimed at increasing public infrastructure spending, rationalizing subsidies, creating more flexible labour and product markets, and enhancing financial inclusion, the report said.
Looking forward, the Executive Directors noted that global financial market volatility, a potential further deterioration in exports, and strains in bank and corporate balance sheets could weigh on India’s growth prospects.
Meanwhile, high fiscal deficits and upside risks to inflation constrain the scope for countercyclical policies, the report said.
Against this backdrop, the Executive Directors underscored the need for continued vigilance, growth-friendly fiscal consolidation, and sustained reforms to enhance the resilience of the economy and bolster potential growth.
Addressing supply constraints and further improving the business environment remain important priorities. Progress in these areas would have a positive impact on poverty reduction, the report said.