India’s GDP growth decelerated sharply to a 7-quarter low of 5.4% YoY in Q2 FY25 from 6.7% in Q1 FY25, thereby posing a significant negative surprise compared to market consensus expectation of ~6.5%.

Along similar lines, the supply side estimate as captured by the GVA data (which is comparatively less noisy), also depicted a loss of momentum with Q2 FY25 growth slipping to a 7-quarter low of 5.6% YoY from 6.8% in Q1.

Key highlights of Q2 FY25 data

From GVA perspective, the incremental slowdown was on account of the industrial sector (including construction) even as services held steady, while the agriculture and allied sector registered an improvement.

• Industry GVA growth slipped to a 6-quarter low of 3.6% YoY from 8.3% in Q1. The loss of momentum was broad-based with weather related disruptions acting as a common drag across sectors.
  1. Mining along with the utilities sector bore the brunt of weather-related disruptions during the quarter.
  2. Manufacturing sector was impacted during the quarter on moderation in output/sales (as per RBI data, aggregate sales of private corporates moderated to 5.4% YoY in Q2 FY25 from 6.9% in the previous quarter) and lagged impact of increase in input price inflation.
  3. Construction activity moderated a tad as general government’s capex spend remained subdued despite some improvement.
• Services GVA remained steady at 7.1% YoY in Q2 FY25 vs. 7.2% in Q1 FY25 with support from trade, hospitality, transport, and communication services along with a pick-up in revenue spending (excluding interest payments) by the general government.
• Agriculture and allied sectors formed the bright spot with sectoral GVA in this category printing at a 5-quarter high of 3.5% YoY in Q2 FY25 vs. 2.0% in Q1.

Glancing through the demand side components of GDP, we note that:

• There was perceptible weakness in exports, with annualized growth slipping to a 5-quarter low of 2.8% in Q2 FY25. This was on account of contraction in merchandise exports even though services exports remained healthy. Nevertheless, net exports contributed positively to GDP growth in Q2 FY25 as imports slipped into contraction, posting a -2.9% annualized print in Q2 FY25.
• Investment growth moderated to a 6-quarter low of 5.4% YoY in Q2 FY25 vs. 7.5% in Q1. While this could potentially reflect the lagged impact of subdued capex disbursal by the general government (elections and government formation at the centre along with rising burden of welfare spend at state levels, which could potentially be displacing state capex), it is also likely that private investments remained lacklustre during the quarter.
• Domestic consumption, that has a major share of ~65% in the GDP, moderated somewhat to 5.7% YoY growth in Q2 FY25 from 6.3% in Q1. Domestic consumption can be considered to have three key levers, viz., private rural consumption, private urban consumption, and general government consumption. The moderation in Q2 FY25 appears to have been led by private urban consumption largely as improvement in the Agricultural GVA and general government revenue (excluding interest payments) spend supported rural consumption and overall government consumption expenditure.

Outlook

The sharp loss of momentum in India’s real GDP data was missed by market participants as well as the RBI (recent market polls suggested consensus expectation of 6.5% while RBI’s latest nowcast for Q2 FY25 GDP growth stood even higher at 6.7%). While it is difficult to rationalize the exact reason for such a large miss, one could say that the adverse impact from a pick-up in input price inflation and the temporary setback from weather related disruptions during the quarter could have compounded the gradual slowdown momentum, which was already in place on account of lagged impact of domestic policy tightening (fiscal, monetary, and regulatory) and elevated geopolitical uncertainty.

To be sure, factors responsible for a gradual slowdown continue to persist. In fact, the sentiment is now likely to worsen at the margin as global economic uncertainty could increase amidst trade/tax/immigration policy unpredictability in the US under the Trump regime.

Having said, the impact of temporary factors in exacerbating the growth slowdown in Q2 FY25 is likely to fade away, and potentially reverse over Q3-Q42 FY25. 

• With beginning of the arrival of a healthy kharif output along with the likelihood of a favourable rabi sowing augurs well for rural consumption. 
• Although overall government spending was rather subdued in H1 FY25, attempt to move towards the budgeted targets could fast track disbursals in H2 FY25.

The festive season during Sep-Nov FY25 has depicted some signs of recovery in consumption levels. However, the overall signal has been mixed – as per media reports, divergence in low vs. high volume consumption continues to persist, retailers have reportedly relied upon heavy discounts to drive sales, and rural spending is showing signs of buoyancy.

On net basis, we incorporate the high frequency signals and now revise lower our FY25 GDP growth estimate to 6.4% from 7.0% earlier. This would imply an improvement in the second half annualized growth to 6.8% vis-à-vis 6.0% in the first half.

Says Suman Chowdhury, Chief Economist and Executive Director, Acuité Ratings & Research “While Acuité Research has been highlighting the risks of an economic slowdown persistently over the last few months, the extent of the GDP growth slippage in Q2 has also caught us by surprise. The economy has hit a bump in H1FY25 after a robust post-pandemic recovery with a much slower manufacturing sector dragging down growth prospects. The slowdown has been aggravated by two factors –the delay in government spending due to the general elections in Q1 and the excess rains in Sep-24. However, the agriculture sector is set to rebound in the current fiscal after the sluggish growth last year with 3.5% GVA YoY recorded in Q2, giving some much-needed relief to the rural sector.

India’s manufacturing sector has hit a significant slowdown, with GVA growing by just 2.2% in Q2FY25, a sharp contrast to the 14.3% growth seen in the same period last year. The sector faces multiple headwinds, starting with weaker urban demand, exports weighed down by weaker global demand and a stronger dollar raising input costs. This has clearly impacted corporate profitability as reflected in the financial results of the second quarter. Nevertheless, private consumption grew by 6.0% YoY, pulled by a recovery in rural demand.

For H2, an acceleration in public capital expenditure to catch up with the budgetary targets, as well as solid support from the agricultural sector, will help ride out some of the drag on the economy. While festivals and wedding season have raised hopes of a revival in urban demand in Q3, sustainability of such demand will be the key to a GDP growth of 7.0% in the upcoming quarters.

While we will continue to watch the high-frequency indicators closely, RBI’s commentary on growth in the upcoming MPC meeting will be important to understand the monetary policy and liquidity management trajectory over the next 6 months. Meanwhile, we expect RBI to deliver its first rate cut in February amidst a moderating inflation scenario; the likelihood of a CRR cut also exists if growth indicators remain sluggish.”

Table 1: India’s GVA and GDP: Sectoral break-up of annualized growth

Chart 1: While volatility in industry value-add has always been higher than services or agriculture, it was worsened in the post COVID period

Note: (i) Volatility is represented by standard deviation in YoY change in respective quarterly data,

(ii) Pre COVID period refers to June 2012 until Dec 2019, and (iii) Post COVID refers to the period beginning Sep-22.