Investment ideas for 2023 for india key themes and investment

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9 January 2023 Global Research and Evidence Lab Powered by

UBS E videnc e Lab

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India Economic Perspectives

India: Key themes and investment ideas for 2023

1. Could rural/agriculture bounce back in 2023?

Some of the rural high-frequency indicators that have been lagging since the COVID shock are showing an improvement. In the upcoming union budget, we expect the government to boost rural spending by around US$10bn (+15% YoY) and maintain double-digit growth in public capex (+20% YoY). Even though policymakers' rural/agri tilt is real rather than just rhetoric, it is still likely to be within the fiscal boundary.

2. Why are we below consensus on India's growth outlook in 2023-24?

Even though India should be one of the less affected economies, due to the spillover effect of an expected global slowdown in 2023E, it is not immune. Building in slowing global growth and delayed impact of monetary tightening, we expect India's FY24 real GDP growth to remain below consensus at 5.5%YoY (consensus: 6%YoY).

3. Are India's inflation concerns over?

We expect average CPI inflation to moderate towards 5-5.5%YoY in FY24 (from 6.6% in FY23) but to remain above RBI's medium-term target of 4% YoY due to uncertainty regarding the food inflation outlook. We expect the policy (repo) rate to peak at 6.5%

by end-FY23 before easing to 6% by end-FY24, particularly factoring in slower growth and a sharp Fed pivot from H223, in our view.

4. Could India gain in the global supply-chain shift?

UBS Evidence Lab surveys of US (> Access Database) and Chinese (> Access Database) executives show that firms have already begun to shift their production bases from China. India has the lowest manufacturing costs among peers, but China retains significant ecosystem advantages. We believe India should benefit from the government’s reform agenda besides its own prospect of an attractive big local market.

5. India's structural growth story remains intact

We continue to expect India to be able to maintain potential growth of 5.75-6.25% YoY in the medium term. We believe capex, manufacturing and digitalisation could be the next key growth drivers for India.

Rupee depreciation pressure should ease; IGB yields to peak at around 7.5%

The drivers of the INR weakness have eased, but not reversed. We expect INR underperformance versus G3 currencies to continue, and we do not rule out one touch 85 on the USDINR in H123—we think India's stretched current account (CA) deficit, our expectations of tighter global financial conditions and expensive Nifty valuations support this view. We expect IGB yields to return to the highs of last summer (more than 7.5%) before moderating to 7% by end FY24. We expect the 10-year IGB-UST (US Treasury) spread to widen by around 100bps in 2023.

Equities: Receding household flows and high valuations may weigh

Economics

India

Tanvee Gupta Jain Economist [email protected]

+91-22-6155 6070 Nihal Kumar Associate Economist [email protected]

+91-22-6155 6059 Rohit Arora Strategist [email protected]

+65-6495 5232 Sunil Tirumalai Strategist [email protected]

+91-22-6155 6080 Abhilash Chowdary Bobbur, PhD Strategist [email protected]

+91-22-6155 6042 Teck Quan Koh Strategist [email protected]

+65-6495 4416

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Contents

Key themes, signposts and risks . . . 3

Outlook in numbers . . . 5

Theme 1: Could rural/agriculture bounce back in 2023? . . . 6

Theme 2: Why are we below consensus on India's growth outlook in 2023-24? . . . 13

Theme 3: Are India's inflation concerns over? . . . 20

Theme 4: Could India gain in the global supply chain shift?. . . 26

Key success factors locally in India improving . . . 30

Theme 5: India's structural growth story remains intact. . . 36

What are the new growth drivers?. . . 37

1) Capex to be supported by policy push . . . 37

2) Digitalisation boom to help boost productivity . . . 38

3) Manufacturing and exports: Higher FDI inflows is an enabler. . . 40

Investment ideas. . . 43

Equity/rates/FX markets: which asset class will succeed? . . . 43

INR: Past the worst, but not out of the woods . . . 43

Rates: 10y IGB-UST spread to widen by c100bp in 2023 . . . 44

Equity outlook 2023: Will the wave stay or ebb?. . . 45

Appendix. . . 49

Tanvee Gupta Jain Economist [email protected]

+91-22-6155 6070 Nihal Kumar Associate Economist [email protected]

+91-22-6155 6059 Rohit Arora Strategist [email protected]

+65-6495 5232 Sunil Tirumalai Strategist [email protected]

+91-22-6155 6080 Abhilash Chowdary Bobbur, PhD Strategist [email protected]

+91-22-6155 6042 Teck Quan Koh Strategist [email protected]

+65-6495 4416

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India Economic Perspectives UBS Research

Key themes, signposts and risks

Key themes Key global messages

1. Could rural/agriculture bounce back in 2023?

2. Why are we below consensus on India's growth outlook in 2023-24?

3. Are India's inflation concerns over?

4. Could India gain in the global supply-chain shift?

5. India's structural growth story remains intact

˜ We expect growth to be historically weak in 2023 at just 2.2% YoY in 2023E and would be the lowest since 1993 (ex- pandemic and GFC). The bulk of the slowdown vs trend next year comes from the US and China. (link) .

˜ The economic environment is turning more disinflationary with goods and commodity prices coming more faster than services. While higher food prices could limit the disinflation across EMs. Global inventories accumulating at the fastest pace in 25 years. (link)

˜ Our US team expects the FOMC to raise the target range for the federal funds rate two more times, one 25 bp hike in February and another in March. That would bring the target range to 4.75% to 5.0% at the March FOMC meeting. Then,we expect the FOMC to pause, but retain a tightening bias, as a sluggish economy and falling inflation let them evaluate the lagged effects of the tightening already put in place.

(link)

˜ Our China team expects GDP growth to recover to 4.9% in 2023, led by domestic consumption and helped by property stabilization. Meanwhile, we expect exports to decline on a global slowdown, and infrastructure investment to slow despite continued government support. (link)

Key downside and upside risks for India Most-preferred stocks

˜ If inflation is meaningfully higher (100bps) than our forecasts, we estimate India's growth would be 90bps lower and policy rates 50bps higher.

˜ A slowdown in growth in China could have some disinflationary effects and growth would be slightly slower (40bps) in FY24 versus our base case.

˜ A rapid de-escalation of the Russia/Ukraine war could significantly lessen price pressure as the cost of energy and food would likely fall. A faster decline in inflation would allow RBI to cut rates from September 2023 onwards and pause at 5.75% in March 2024. In this scenario, we would expect growth to rebound in FY24 (70bps higher than our base case) and FY25 (60bps higher than our base case).

1) HDFC Bank

2) Hindustan Unilever

3) IGL

4) Maruti Suzuki

5) SBI Life

6) Zomato

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Key themes for 2023

1. Could rural/agriculture bounce back in 2023? More here -->

Some of the rural economy's high-frequency indicators that have been lagging so far are showing an improvement, even though it is not a broad-based recovery. This has been largely led by the economy reopening (resulting in work availability and migrants moving back to cities) and the front loading of central government spending in FY23. In the upcoming FY24 union budget, we expect the central government to boost rural/agri spending by US$10bn (+15% YoY) and maintain double-digit growth in public capex (+20% YoY, especially in the run-up to the parliamentary elections due in early 2024). We think the current comfortable popularity ratings of the Modi government suggest the rural/agri tilt is likely to be well within the fiscal boundary. We expect the central government's subsidy burden to ease significantly in FY24, creating fiscal space to reallocate money towards existing rural schemes including the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) 2005, rural housing and roads amongst others.

2. Why are we below consensus on India's growth outlook in 2023-24? More here -->

We maintain our below consensus FY24 real GDP growth forecast of 5.5%YoY (consensus at 6%YoY). We anticipate a normalisation of consumption growth sequentially as reopening COVID tailwinds fade and households’ purchasing power is impacted by tight monetary policy and the depletion of accumulated pandemic savings. Capex growth could also moderate as corporates defer capex plans on demand uncertainty while rising mortgage rates may affect housing demand. That said, we expect the government to continue to boost public capex, which could help mitigate some of the adverse impact and encourage private capex, albeit with a lag. We think export growth is set to slow in line with global demand in the coming months.

3. Are India's inflation concerns over? More here -->

We expect headline CPI inflation to moderate towards an average of 5-5.5%YoY in FY24E, from an estimated 6.6%YoY in FY23E.

A few reasons for this optimism include: a) peaking of headline CPI inflation, b) softening domestic demand momentum, c) falling global commodity prices, d) lags from monetary policy to inflation, and e) improvements in global supply chains. That said, we expect it to remain sticky and stay above RBI's medium-term target of 4% in FY24 on an uncertain food inflation outlook (which carries a higher CPI weight of 46%). In our base case, we believe the rate hike cycle is at its tail end with the repo rate peaking at 6.5% by end FY23E. A sharp Fed pivot could push EMs' central banks (including India's) to start a shallow easing cycle. We expect the repo rate to ease to 6% by end FY24E.

4. Could India gain in the global supply-chain shift? More here -->

UBS Evidence Lab's executive surveys for the US (> Access Database) and China (> Access Database) show that firms have already begun to shift their production bases from China. We think India could stand to gain from global manufacturing firms looking for a low-cost supplier for labour-intensive assembly. This would also help create backward linkages and help provide job opportunities—eg, Apple is setting up a dual electronic manufacturing services structure based in China and India. From almost zero in FY18, India's capacity is less than 5% of the total global supply chain currently, but should move higher over the coming years. This is also partly on account of the government's production-linked incentive scheme to compensate for the initial efficiency loss and higher costs. Key enabling factors in India include its competitive tax rates, availability of a skilled workforce, improving ease of doing business, government's structural reforms and macro/political stability

5. India's structural growth story remains intact More here -->

We continue to expect India to be able to maintain potential growth of 5.75-6.25% YoY in the medium term. We think the risk of potential lower output from pandemic-related challenges was mitigated by significant digitalisation adoption, the easing of financial sector weaknesses and the government’s reform agenda to help support India’s integration into global value chains.

However, challenges remain, including providing productive jobs to a rising working-age population, de-globalisation concerns and the automation overhang.

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Outlook in numbers

Figure 1: India—outlook in numbers

FY18 FY19 FY20 FY21 FY22 FY23E FY24E FY25E

Economic Activity and Employment

GDP, local currency bn 170900 188997 200749 198009 236646 273078 302477 336491

GDP, USD bn 2651 2703 2832 2668 3176 3391 3695 4033

GDP per capita, USD 2018 2037 2112 1968 2321 2453 2646 2860

Real GDP growth, % 6.8 6.5 3.7 -6.6 8.7 6.9 5.5 5.9

Private consumption, % y/y 6.2 7.1 5.2 -6.0 7.9 9.2 5.5 6.4

Government consumption, % y/y 11.9 6.7 3.4 3.6 2.6 2.4 4.4 5.0

Gross Fixed Capital formation, % y/y 7.8 11.2 1.6 -10.4 15.8 12.3 5.6 8.4

Exports, % y/y 4.6 11.9 -3.4 -9.2 24.3 10.8 4.0 5.8

Imports, % y/y 17.4 8.8 -0.8 -13.8 35.5 23.7 4.5 6.4

Prices, interest rates and money

CPI inflation, % y/y (average) 3.6 3.4 4.8 6.2 5.5 6.6 5.2 5.0

Broad money M3, % y/y (year-end) 9.2 10.5 8.9 12.2 8.8 10.0 11.0 11.0

Domestic private credit, %y/y 10.0 13.3 6.1 5.6 8.6 15.0 12.0 12.0

Domestic bank credit/GDP 50.5 51.7 51.7 55.3 50.2 50.1 50.6 51.0

Repo rate, % (year-end) 6.0 6.3 4.4 4.0 4.0 6.5 6.0 6.0

10 year bond yield, % (year-end) 7.4 7.4 6.1 6.2 6.8 7.5 7.0 7.0

USDINR (year-end) 65.0 69.2 75.4 73.5 75.8 83.0 82.0 84.0

Fiscal accounts

General government budget balance, % GDP -5.9 -5.9 -7.3 -12.8 -10.7 -9.4 -8.9 -7.9

Revenue, % GDP 22.9 22.9 22.3 22.7 23.4 23.9 23.6 23.3

Expenditure, % GDP 30.3 28.8 29.6 36.6 34.1 33.4 32.5 31.2

of which interest expenditure, % GDP 4.8 4.8 4.8 5.4 5.3 5.2 5.2 5.0

Public sector debt (gross),% GDP 69.8 70.7 74.7 89.0 85.2 83.5 84.7 84.3

of which domestic public debt, % GDP 67.0 68.0 71.8 85.7 82.4 80.8 81.9 81.5

of which external public debt,% GDP 2.8 2.7 2.9 3.3 2.8 2.7 2.8 2.8

Balance of payments

Trade balance, USD bn -160 -180 -158 -102 -189 -290 -278 -275

Exports, USD bn 309 337 320 296 429 417 345 376

Imports, USD bn 469 518 478 398 619 707 623 650

Current account balance, USD bn -49 -57 -25 24 -39 -104 -83 -78

as % of GDP -1.8 -2.1 -0.9 0.9 -1.2 -3.1 -2.3 -1.9

Foreign direct investment (net), USD bn 30 31 43 44 39 39 42 50

Total FX reserves, USD bn 425 413 478 577 607 573 589 609

Total external debt, % GDP 20.0 20.1 19.7 21.5 19.5 18.0 17.4 17.9

Credit ratings

Moody's Baa2 Baa2 Baa2 Baa3 Baa3 Baa3 Baa3 Baa3

S&P BBB- BBB- BBB- BBB- BBB- BBB- BBB- BBB-

Fitch BBB- BBB- BBB- BBB- BBB- BBB- BBB- BBB-

Source: CEIC, Haver, UBS estimates. Note: India data is for FY ended 31 March

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Theme 1: Could rural/agriculture bounce back in 2023?

High-frequency indicators for the rural economy show an improvement even though it is not a broad-based recovery. We expect the government to boost rural/

agri spending in FY24, but it is likely to be within fiscal boundaries.

COVID led to an uneven economic recovery

Since the pandemic we have observed a divergence between the growth trends in the urban and rural economies, with the former showing a reasonable recovery while the latter lagged. As we previously highlighted, our estimates indicated only one-third of the labour force (including those that work in the formal sector and some parts of the informal segment, largely salaried and self-employed workers) would have had income continuity during the lockdown period. The rest were either self-employed or worked as casual labourers, and their incomes were significantly affected due to the mobility restrictions amid the COVID-19 shock and the modest government response to support the labour market. In India, the rural economy contributes nearly 50% of India's overall GDP (latest data available as of FY17), around 70% of India's population lives in rural areas but its per capita income is less than half that of urban economy (Figure 3Urban and rural economy statistics ).

Figure 2: India's employment structure and COVID's impact on employment/

income

17%

Formal Sector

Largely recorded income continuity

83%

Informal Sector

Severly affected by the pandemic

48% Self-employed Balance-sheet got further stretched

27%

Casual labour Jobs got adversely affected;

many migrants went back to the village

7%

Others*

Labour Force (100%)

Source: NSSO (National Sample Survey Organisation) survey on employment and unemployment, 2011-12, UBS.

Note: *Others include daily wage earners and regular wage/salaried workers

Figure 3: Urban and rural economy statistics

52%

49%

Urban Rural

Share in NVA*

31%

69%

Urban Rural

Share in population

2350

1000

Urban Rural

Per capita income (US$)

Urban and rural economic activity showed diverging trends during the pandemic

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Rural economy seems to have bottomed out

As the economy reopened after the pandemic and economic activity gained momentum, the uneven economic recovery observed during the pandemic seems to be normalising. Even with the economic indicators for urban growth holding up—including gasoline consumption, passenger car sales, domestic air passenger traffic and corporate wage growth—a gradual moderation in momentum is now visible. However, some of the economic indicators for rural economic activity that have lagged so far are now showing improvements even though the recovery is not broad-based. This has been largely led by higher central government spending in rural and other welfare schemes, the economic reopening and improved labour market conditions in the unorganised economy, for instance indicators that have lagged so far include shortfalls in food grain production for summer crops (-3.9% YoY),(1) a slowdown in two-wheeler sales after the festive season (down 9% in December versus 35% growth during the festive season (October-November)) and real rural wage increases that are still in negative territory due to higher inflationary pressure. Meanwhile, a rural consumer confidence survey by Centre for Monitoring Indian Economy (CMIE), tractor sales data and demand for work under the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) give relatively positive indications about the rural economy. Winter crop sowing is also progressing well (up 4.4% up to 23 December 2023), which bodes well for rural incomes.

Figure 4: Rural wages

-10%

-5%

0%

5%

10%

15%

20%

25%

Jan-09 Dec-09 Nov-10 Oct-11 Sep-12 Aug-13 Jul-14 Jun-15 May-16 Apr-17 Mar-18 Feb-19 Jan-20 Dec-20 Nov-21 Oct-22

Nominal rural wages (combined) Real rural wages (combined) CPI (Rural)

YoY%, 3MMA

Source: CEIC, UBS.

Figure 5: Two-wheeler sales vs registrations

50%

100%

150%

200%

0%

20%

40%

60%

80%

2W sales 2W registration, RHS

YoY% YoY%

Figure 6: Tractor sales

0%

20%

40%

60%

80%

Tractor volumes YoY% Tractor volumes YoY%, 6MMA

Economic indicators for rural economic activity that have been lagging so far are now showing improvements

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Figure 7: Heat map of high-frequency indicators

Urban economic indicators (YoY%) Mar-20 Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 Sep-21 Dec-21 Mar-22 Jun-22 Sep-22 Oct-22 Nov-22

CMIE Index of consumer sentiments (Urban) 96.2 40.2 40.3 47.8 50.7 44.7 51.2 50.3 58.2 66.2 74.5 80.2 79.0

Passenger car sales -26% 12% 11% 48% 4% -20% -6% 67% 41% 47% 50%

Domestic air passenger traffic (Mn) 32.8 2.3 8.9 18.9 23.3 10.7 18.3 30.4 24.7 32.5 30.2 31.9 33.4

Gasoline consumption -0.5% -36.4% -4.9% 6.4% 10.5% 54.4% 11.8% 2.3% 1.5% 30.7% 9.0% 9.7% 8.6%

CPI- urban 6.5% 6.6% 6.9% 6.4% 5.9% 5.7% 5.2% 5.5% 5.9% 7.0% 6.8% 6.8% 6.5%

Corporate wages 8.0% 6.1% 4.8% 5.1% 5.6% 8.6% 10.9% 11.8% 12.2% 12.0% 12.4%

CMIE unemployment rate (%) 9.3% 19.9% 9.2% 7.7% 7.5% 11.5% 8.9% 8.3% 8.0% 8.3% 8.5% 7.2% 9.0%

Income tax 6.4 -34.1 11.7 35.7 33.9 86.0 26.0 11.0 -2.3 11.1 12.4 11.1 4.7

Rural economic indicators (YoY%)

CMIE Index of consumer sentiments (Rural) 97.1 44.7 49.6 55.8 59.7 49.3 61.3 61.1 69.0 69.7 79.0 81.8 82.1

Tractor sales -9% -20% 43% 33% 83% 167% -4% -12% -22% 25% 2% 7% 9%

2-wheeler sales -25% 0% 13% 30% -11% -23% -23% 98% 14% 11% 11%

Households demanded work (MGNREGA) (mn) 20.7 44.8 24.4 26.5 26.2 34.0 24.0 24.0 24.1 28.7 15.0 13.9 16.2

Govt. spending (Ministry of rural development) 43% 155% 1% 47% 34% -51% 4% -1% 18% -21% 8% 70% 4%

Agricultural credit 8.1% 8.8% 10.3% 7.6% 10.5% 10.6% 10.6% 14.5% 9.9% 13.0% 13.4% 13.6% 13.8%

CPI-rural 6.8% 6.6% 6.9% 6.3% 4.0% 5.5% 5.0% 4.6% 6.7% 7.5% 7.2% 7.2% 6.9%

Rural wages 4.1% 6.6% 6.0% 5.3% 5.4% 3.6% 4.3% 4.8% 4.4% 4.5% 4.9% 5.2% 5.4%

CMIE unemployment rate (%) 7.3% 17.8% 6.7% 7.4% 6.3% 8.8% 6.7% 7.2% 7.1% 7.3% 6.6% 8.0% 7.6%

Source: CEIC, CMIE, UBS. Note: Green signals strength/less severity. Red signals weakness/greater severity. Numbers represent YoY growth unless specified. Pre-pandemic average (FY19-20) households demanded work under MGNREGA stood at 15.6m. Corporate wages are based on salaries and wages expense of all listed companies as per their quarterly results and used as a proxy for urban wages.

Few of the indicators showing rural recovery include:

˜ The CMIE consumer sentiments indices, both at the urban and the rural levels, improved to a 32-month highs in November 2022, albeit remaining below pre- pandemic levels. As per the CMIE data, rural unemployment levels are also close to being back to pre-pandemic levels.

Figure 8: CMIE consumer sentiments indices

0 20 40 60 80 100 120

Jan-18 Apr-18 Jul-18 Oct-18 Jan-19 Apr-19 Jul-19 Oct-19 Jan-20 Apr-20 Jul-20 Oct-20 Jan-21 Apr-21 Jul-21 Oct-21 Jan-22 Apr-22 Jul-22 Oct-22

Index of consumer sentiments-urban Index od consumer sentiments-rural Feb 2020=100

Source: CMIE, UBS

Figure 9: Rural unemployment back to pre-pandemic levels

-1%

1%

3%

5%

7%

9%

11%

13%

15%

Dec-19 Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 Feb-21 Apr-21 Jun-21 Aug-21 Oct-21 Dec-21 Feb-22 Apr-22 Jun-22 Aug-22 Oct-22 Dec-22

CMIE unemployment rate-Rural

%

22%

Source: CMIE, UBS

˜ While monsoons have been above average this year, their distribution has been largely uneven. Even though summer crops' food grain production lagged (down 4% largely led by rice), the winter crop sowing (which runs from October to March and accounts for c50% share in food grain production) is progressing well. Indeed, winter crop sowing was up 4.4%YoY until 23 December (largely led by wheat)

CMIE data suggests rural sentiment is recovering even though it remains below the pre-pandemic level.

Winter crop sowing is progressing well.

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Figure 10: Summer crop production vs rainfall deviation

-3.9%

6.0%

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23*

Summer (kharif) production (YoY%), LHS Rainfall deviation from normal (%), RHS

Source: CEIC, Department of food and public distribution, Ministry of Agriculture, UBS. Note: *Summer crop production estimates for FY23 are as per first advance estimates by the Ministry of Agriculture and Farmers Welfare.

Figure 11: Winter crop sowing progressing well

-15%

-10%

-5%

0%

5%

10%

15%

20%

FY13 FY15 FY17 FY19 FY21 FY23*

Winter (rabi) sowing (YoY%) Winter (rabi) production (YoY%)

Source: CEIC, Ministry of Agriculture, UBS. Note: * FY23 data until 23 December 2022.

˜ Demand for work under the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA)(2) has declined in recent months suggesting alternative employment opportunities are available to unskilled/low-skilled labour in urban and rural areas with the economy reopening. Indeed, our analysis suggests daily wages paid per day in non-agricultural and/or construction jobs are nearly 1.7-1.8x the wages paid under MGNREGA.

Figure 12: Demand for work normalising under rural employment programme (MGNREGA)

0 5 10 15 20 25 30 35 40 45 50

Jan-18 Apr-18 Jul-18 Oct-18 Jan-19 Apr-19 Jul-19 Oct-19 Jan-20 Apr-20 Jul-20 Oct-20 Jan-21 Apr-21 Jul-21 Oct-21 Jan-22 Apr-22 Jul-22 Oct-22

Total households demanded work Total households worked Million

Source: Ministry Of Rural Development, Government Of India, UBS

Figure 13: Average daily wage comparison

217

328

374 387

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

0 50 100 150 200 250 300 350 400 450

MGNREGA Agriculture sector Non-agriculture

sector Construction Average daily wage

1.5X

1.7X 1.8X

Rs/day Relative to

MGNREGA wage

Source: CEIC, UBS. Note: Average daily wage is computed using the average wage given during January 2022-October 2022.

Economy reopening and government spending are supporting rural income

Alternative employment opportunities are available to unskilled/low-skilled labour in urban and rural areas with the economy reopening.

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$8.9bn, 0.3% of GDP) under the MGNREGA scheme in FY23. Of this, nearly 92% has already been spent by the third week of December 2022. As per media reports (link), the government is expected to allocate an additional Rs250bn (US$3.1bn) under this scheme for the remainder of FY23 to support the rural economy.

Figure 14: Central government expenditure

1.0%

1.4%

1.8%

2.2%

2.6%

3.0%

3.4%

10.0%

11.0%

12.0%

13.0%

14.0%

15.0%

16.0%

Apr-17 Aug-17 Dec-17 Apr-18 Aug-18 Dec-18 Apr-19 Aug-19 Dec-19 Apr-20 Aug-20 Dec-20 Apr-21 Aug-21 Dec-21 Apr-22 Aug-22

Centre's revenue expenditure, LHS Centre's capital expenditure, RHS

% of GDP,

12-month trailing % of GDP,

12-month trailing

Source: CEIC, UBS

Figure 15: Following sectors account for c80% of incremental central government expenditure in FY23YTD

133 179

221

758 774

870

0 250 500 750 1000

Home Affairs Defence Communications Finance (largely interest payements) Road Transport and Highways Ministry of Chemicals and Fertilisers

Incremental central govt. expenditure (FY23YTD)

Rs bn

Source: CEIC, UBS. Note: FY23YTD numbers are for period April to November 2022.

We expect cUS$10bn additional spending towards rural/

welfare schemes in FY24

The government's pro-rural tilt is not new—it was incrementally visible in the 2018 union budget ahead of the 2019 elections. It was seen in:

˜ A higher Mahatma Gandhi National Rural Employment Guarantee scheme (MGNREGA) outgo.

˜ Higher Minimum Support Prices (MSP) hikes during FY17-19 compared with the moderation seen previously.

˜ Rural and agri spending growth of 26%/19% in FY17/18 (as per fiscal accounts, higher than budgeted initially).

˜ The overall tone of the 2018 budget, which portrayed an increased focus on rural infrastructure.

Figure 16: Higher MSP hikes generally precede general elections

17%

4%

7%

19%

7%

3% 4% 5%

7%

12%

4% 4% 3% 4%

0%

5%

10%

15%

20%

25%

FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23

MSP (all crops) YoY%

Ahead of 2019 general elections

The government's pro-rural tilt is not new—it was incrementally visible in 2018 union budget ahead of 2019 elections.

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Figure 17: MGNREGA spending (YoY%)

-9%

7%

-18%

4%

9%

0%

13%

29%

14%

12%

16%

55%

-12%

0%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

60%

FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22RE FY23E

YoY%

Source: Budget documents, UBS estimates. Note: RE = Government's revised estimate. E = UBS estimates. The Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) of India provides 100 days of employment/year to rural households whose adult members volunteer for unskilled manual labour.

Figure 18: MGNREGA spending

0.0%

0.1%

0.2%

0.3%

0.4%

0.5%

0.6%

0.7%

0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0 16.0

FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22RE FY23E

MGNREGA Spending % of GDP, RHS US$ bn

Pre-2019 general elections spending

Pandemic induced spending

Source: Budget documents, UBS estimates. Note: RE = Government's revised estimate. E= UBS estimates.

We expect the government to increase rural/agri spending by US$10bn (up 15% YoY) and maintain double-digit growth in public capex (up 20% YoY) in the upcoming FY24 budget to boost rural sentiment and income levels (especially in the run-up to the parliamentary elections due in early 2024). The Modi government's current popularity ratings do not suggest government will need to increase rural spending excessively. To conclude, even though policymakers' rural/agri tilt is real rather than rhetorical, it is likely to be within the fiscal boundary. We expect the central government's subsidy burden to ease significantly to Rs4trn (1.3% of GDP ) in FY24 from Rs6.4trn (2.3% of GDP) estimated in FY23 creating fiscal space to reallocate the money towards existing rural schemes including MGNREGA, rural housing, roads etc.

Figure 19: Central government fiscal deficit

3.4%

4.7%

9.2%

7.0%

6.4%

5.9%

4.5%

2%

3%

4%

5%

6%

7%

8%

9%

10%

FY19 FY20 FY21 FY22 FY23E FY24E Medium-

term (FY26) as % of GDP

Source: Budget documents, UBS estimates. FY23E and FY24E are UBS estimates.

FY26 estimates are based on central govt's medium-term fiscal policy guidance.

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Figure 20: Subsidies breakdown

1013 1087 5413

2890 2068

3295 2000

706 811

1279

1537 1052

2152

1600

248 385

385

34

58 357

60

1.2% 1.3%

3.8%

2.1%

1.4%

2.3%

1.3%

0%

1%

2%

3%

4%

0 1,000 2,000 3,000 4,000 5,000 6,000 7,000 8,000

FY19 FY20 FY21 FY22 FY23BE FY23E FY24E

Food Fertilizer

Petroleum Total subsidies, RHS

Rs bn % of GDP

Source: Budget documents, UBS estimates. Note: FY23E and FY24E are UBS estimates. We assume a 25% decline in fertilizer subsidy in FY24, building in a correction in international fertilizer prices. We expect a lower food subsidy bill amid the discontinuation of the free food ration scheme (link).

We expect the central government to spend an additional US$10bn in the upcoming FY24 union budget to support the rural economy.

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The government recently announced (link) it will provide free foodgrain for one year (rather than at a subsidised price) under the existing National Food Security Act (NFSA)(3) and will not be extending the free food ration scheme (PM Garib Kalyan Anna Yojana, PMGKAY)(4) which was announced during the pandemic. As per our estimates, this will help lower the food subsidy bill from Rs3.3trn (1.2% of GDP) in FY23 to Rs2trn (0.8% of GDP) in FY24. With this new plan the government is attempting to balance its support of the lower income population with less pressure on government finances as well as foodgrain stocks under the central pool. Similarly, we expect the fertilizer subsidy to also moderate as international fertilizer prices potentially decline.

Figure 21: Central government's rural spending

FY17 FY18 FY19 FY20 FY21 FY22RE FY23BE FY23 (UBSe) FY24 (UBSe)

1. Ministry of Rural Devt 951 1086 1118 1221 1964 1536 1359 1609 2000

1.1 Rural Employment (MGNREGA) 482 552 618 717 1112 980 730 980 1200

1.2 Rural Roads 179 169 154 140 137 140 190 190 250

1.3 Rural Housing 161 226 193 181 193 204 200 200 350

1.4 Other Ministry of Rural Devt 129 140 153 183 523 212 239 239 200

2. Agri and others 717 890 964 1444 1566 2032 2268 2268 2500

2.1 Agri and allied 337 366 495 927 1057 1182 1246 1246 1450

PM-Kisan 122 123 124 487 610 675 680 680 --

2.2 Drinking water/sanitation 165 239 184 182 159 510 672 672 700

2.3 Health 198 262 255 300 303 279 287 287 290

2.4 Others 16 23 30 34 47 62 63 63 60

3. Total rural development / agri (2+3) 1667 1976 2082 2665 3530 3568 3627 3877 4500

US$ bn 25 31 30 38 48 48 45 47 55

YoY% (in local currency) 26% 19% 5% 28% 32% 1% 2% 9% 15%

as % of GDP 1.1% 1.2% 1.1% 1.3% 1.8% 1.5% 1.3% 1.4% 1.5%

Rural spending (Rs bn)

Source: CEIC, Budget documents, UBS estimates. Note: RE = Government's revised estimate, BE = Government's budget estimate. FY23E and FY24E are based on UBS estimates. As per media reports (link), the government is expected to allocate an additional Rs250bn (US$3.1bn) under this scheme for the remainder of FY23 to support the rural economy.

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Theme 2: Why are we below consensus on India's growth outlook in 2023-24?

India will likely be one of the less-affected economies, but it is not immune to spillover effects of a global slowdown.

We remain below consensus on India's 2023 real GDP growth.

We believe multiple global headwinds are suppressing India's growth prospects. Going into 2023E, we forecast a historically weak outlook: global growth of just 2.2% YoY, the lowest since 1993 (ex pandemic and GFC) (Global Economics & Markets Outlook 2023- 2024). More substantively, we expect global weakness to be spurred by fading tailwinds from COVID-reopening dynamics, business uncertainty over energy rationing in Europe, labour supply shortages, monetary tightening, and a continued inflation drag on real disposable incomes. We calculated Asian GDP growth betas to a 1ppt change in a weighted aggregate of US/EU real GDP growth. High exports-to-GDP economies mostly have high betas, while betas for China, India and Indonesia are low (sub 0.5). Even as India will likely be one of the less-affected economies due to the spillover effects of a global slowdown, it is not immune.

Figure 22: Asia GDP beta to 1ppt change EU/US GDP growth

0.0 0.2 0.4 0.6 0.8 1.0

0.0 0.5 1.0 1.5 2.0 2.5

Indonesia Malaysia Philippines Singapore Thailand Vietnam India Korea Taiwan HK China

Asia economy real GDP growth beta to acceleration/deacceleration in G2 real GDP growth (lhs)

R--sqrd of beta (rhs)

Source: UBS estimates. G2 = the US and EU. Note: We interpret the low betas and low explanatory power of the betas for China, India and Indonesia as consistent with the limited influence of the volume of US/EU demand on those economies' growth rates. Betas calculated over 2000-19.

Figure 23: Real GDP growth – India versus peers

2022E 2023E 2024E

India 6.9 5.5 6.0

China 2.7 4.9 4.8

Brazil 3.1 0.7 1.8

Indonesia 5.5 4.9 5.3

Korea 2.5 1.1 1.7

Taiwan 3.3 1.9 2.2

Thailand 3.3 4.0 2.3

EU 3.4 0.2 1.1

UK 4.3 -0.5 0.6

US 2.0 0.3 0.3

EM 3.7 3.7 4.2

EM ex-China 4.4 2.8 3.7

Global 3.1 2.2 2.7

Source: UBS estimates. Note: India follows fiscal year from April-March; ie, 2022=FY23.

Factoring in slowing global growth and the lagged impact of monetary tightening on domestic demand, we continue to expect India's growth to remain below consensus in FY24. In our base case, we expect India's real GDP growth to slow from 6.9% YoY in FY23E to 5.5% YoY in FY24E, before settling at the long-run average of 6% in FY25E.

India will likely be one of the less- affected economies, but it is not immune to spillover effects of a global slowdown.

We expect moderation in India's real growth to 5.5%YoY in FY24E.

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Figure 24: India real GDP growth

6.5%

3.7%

-6.6%

8.7%

6.9%

5.5% 6.0%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

FY19 FY20 FY21 FY22 FY23E FY24E FY25E

YoY%

Source: CEIC, UBS estimates

Figure 25: India real GDP growth forecasts – UBS vs consensus

3%

4%

5%

6%

7%

8%

9%

Jan-21 Mar-21 May-21 Jul-21 Sep-21 Nov-21 Jan-22 Mar-22 May-22 Jul-22 Sep-22 Nov-22

FY23 consensus FY24 consensus YoY%

UBSFY24E= 5.5%

Consensus FY23F= 6.9%

UBS FY23E= 6.9%

Consensus FY24F= 6.0%

Source: Bloomberg, CEIC, UBS estimates

1) Consumption spending to normalise in FY24E

We believe household spending was pulled forward over the past year by affluent Indians using their excess savings accumulated during the pandemic. Indeed, forced savings (given an inability to spend on goods and services during lockdowns) and precautionary savings (fear of job loss and economic uncertainty) led Indian households to save an extra US$180bn over 2020 and 2021. Going forward, we anticipate normalisation in consumption growth sequentially as COVID reopening tailwinds fade and households’ purchasing power is affected by tight monetary policy, depletion of pandemic savings and an incomplete labour market recovery. The Reserve Bank of India's (RBI) consumer sentiment survey for September 2022 suggested most households reported higher current spending, mainly driven by essential spending;

nearly three-quarters of respondents expect a further rise in overall spending over the next year and another 20% expect it to remain around prevailing levels. Consumer confidence for the current period continued on its recovery path, but remained well below the pre-pandemic level.

Figure 26: Indian households built up 'extra' savings during the lockdowns

-50 0 50 100 150 200 250 300 350

-18 -18 18 18 -19 -19 19 19 -20 -20 20 20 -21 -21 21 21

Household savings flow (Indexed to 100 = avg of CY18)

Gross financials savings Gross financials borrowings Net financial savings

Reopen and savings unwinding Covid

first

wave Covid

second wave

We anticipate normalisation in consumption growth amid fading COVID reopening tailwinds and tight monetary policy.

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Figure 27: RBI consumer confidence survey (CCS)

-10%

-5%

0%

5%

10%

15%

25%

35%

45%

55%

65%

75%

85%

Mar-12 Sep-12 Mar-13 Sep-13 Mar-14 Sep-14 Mar-15 Sep-15 Mar-16 Sep-16 Mar-17 Sep-17 Mar-18 Sep-18 Mar-19 Sep-19 Mar-20 Sep-20 Mar-21 Sep-21 Mar-22 Sep-22

RBI Consumer confidence survey- Current Perception on spending

Real private consumption expenditure, RHS Net response

(%), 4QMA YoY%,

4QMA

Source: RBI, CEIC, UBS. Note: RBI CCS provides an assessment of respondents’

perceptions on general economic situation, employment scenario, overall price situation and own income and spending during the current period and a year ahead. The current situation is compared with the position a year ago and the outlook for a year ahead is on the basis of the current situation. The latest round of the survey was conducted over 1-10 September 2022, covering 6,062 responses.

Figure 28: Monthly per capita discretionary consumption expenditure

0%

20%

40%

60%

80%

100%

Rural Urban

21% 16%

21%

18%

59% 66%

Bottom 50% population 50-80% population Top 20% population

% share by population fractile

Source: NSS 68th round, 2011-12, UBS. Note: Discretionary spending includes expenditure on entertainment, clothing, footwear, rent, household consumables, consumer services, etc. Essential spending includes expenditure on food, fuel &

light, education, medical, and conveyances.

2) Capex plans likely to be postponed on demand uncertainty

Following the COVID-led dip in FY21, we note a capex revival in the Indian economy in FY22, which has continued in FY23. Capacity utilisation also picked up from a low of 60 in June 2021 to 72.4 as of the June 2022 quarter. The repair and improvement in the balance sheets of banks and corporates laid the groundwork for a pick-up in the investment cycle.

Figure 29: Capex breakdown (as % of GDP)

0%

5%

10%

15%

20%

25%

FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21

Households Public Private Corporate as % of GDP

Investment boom during FY04-08 was led by private corporate capex

Source: CEIC, UBS

Figure 30: Capacity utilisation vs fixed capex

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

60 65 70 75 80 85

Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15 Jun-16 Dec-16 Jun-17 Dec-17 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 Jun-21 Dec-21 Jun-22

Capacity Utilisation Real fixed capex, RHS

4QMA, % YoY%, 4QMA

Source: RBI, CEIC, UBS

India saw capex revival in FY22/23 supported by banks' and corporates' improved balance sheets.

Figure

Updating...

References

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