India Pulls Ahead of China as Economic Growth Engine

India's Economy Outpaces China's with New Prime Minister

Getty Images / Mohd Samsul Mohd Said.

China and India represent two of the most popular emerging markets for international investors given their rapid growth rates. While China’s economic growth fell below a 7% annualized rate during the third quarter of 2015, India’s economic growth has picked up to 7.4% during the same quarter, which is up from the 7% expansion that it posted during the second quarter of the year – pulling further ahead of China in terms of growth.

The growth was driven largely by a 9.3% increase in manufacturing output, which is up from just 7.2% during the second quarter of the year. Also, financing and insurance services grew 9.7% from 8.9% during the previous quarter driven by new projects. Trading and hotel services offset the increase with a modest decline to 10.6% growth, while farm production remained a drag on growth accelerating just 2.2% during the quarter.

In this article, we’ll take a look at some of these key growth driver that led to the outperformance and what the future looks like for the country.

Positive Change

The election of Prime Minister Narendra Modi helped bolster investor optimism in Asia’s third-largest economy. With promises to make it easier to do business in India, investors are hoping that the incoming Prime Minister will bolster foreign direct investment and ultimately pave the way for more multinationals to do business in the country.

These dynamics could help improve employment and long-term economic growth by driving incomes higher.

The government has already been successful in easing foreign direct investment regulations and keeping food and fuel subsidies to a minimum while helping power companies that were struggling with high debt loads.

Also, the government plans on expanding the total length of its highway system by around 50% before 2020, which could translate to significant investments in infrastructure over the coming quarters and years.

Uphill Battles

Mr. Modi still faces an uphill battle in passing some of the country’s most important legislation, however, including a much-needed goods and services tax to replace a patchwork of federal and state fees. Due to opposition, the government has also stalled on implementing changes to land rules that would make it easier for companies to acquire land for industrial and infrastructure projects that would ultimately help improve economic growth.

Slowing inflation has also enabled the central bank to lower interest rates to spur economic growth, but bad loans on the books of many banks have limited the real impact of these moves on the general public. A hike in U.S. interest rates could also lead many international investors to pull capital away from emerging markets and put it back into the U.S. market due to the greater yields that will become available.

GDP Calculations

India announced a change in the way that it calculates gross domestic product in early 2015, which led many analysts to question whether its economic growth was simply the result of mathematics rather than true underlying growth.

Since a number of changes were made all at once, economists can’t simply change the base year back to 2005 and compare results.

The change involved a change of the base year from March 2005 to Match of 2012, while incorporating more data on corporate activity and newer surveys of spending by households and informal businesses. By using market prices instead of factor costs, the country’s methodology takes into gross account value added in goods and services and indirect taxes, which is along the lines of how the rest of the world makes the calculation.

Key Takeaway Points

  • India’s economy picked up speed during the third quarter of 2015 after Narendra Modi became Prime Minister and implemented much-needed changes.
  • While the incoming government has had success implementing a number of different measures, there are some important issues where it sees resistance.
  • The Indian government also changed the way that it calculates its GDP, but these changes may actually better reflect the country economic growth.