Economy has clearly slowed, but expect a recovery by January: Neelkanth Mishra

Neelkanth Mishra, Chief Economist at Axis Bank and Head of Global Research at Axis Capital, says the economy has unmistakably slowed, but it’s seasonal.

He expects a recovery by January, and advises buying private banks and capex plays.

He explained that investors began shifting toward safer, “defensive” sectors like IT, consumer staples, and pharmaceuticals from April through June.

These sectors performed well even though earnings in some, especially IT and pharma, were still declining. This was largely because fund managers noticed signs of the economy slowing down but needed to invest steady money inflows.

In an interview with CNBC-TV18, Mishra discussed the outlook for Samvat 2081 and the rest of FY25.

The Nifty index has lost over 7% from its recent peak but it’s still trading at nearly 23 times the 2024-25 (FY25) projected earnings.

This is the verbatim transcript of the interview.

Q: Macros and markets are in a spot of bother. First the macros, the goods and services tax (GST) collections were the first heart attack, at least for me, 6.5% when nominal gross domestic product (GDP) should be 10-11%. Are you worrying that the economy is slowing or is it just seasonal?

A: The economy has slowed, and this is something we have been flagging for a while. For a while, people thought it was just the intense heat or the elections, and then it was heavy rains. But no, we have to face reality, most high-frequency indicators have slowed very sharply, and everything from cement volumes to power volumes to car sales to commercial vehicles (CV) sales – you name it; I cannot think of any high-frequency indicator which has improved in the last six months.

Q: I will show three pieces to counter, to play strong advocate. Vahan data (auto data) is now available for the first half of the festive season and there, the two-wheelers are up 12%, a damn good number. Not passenger vehicles (PVs), PVs are still flat, but two-wheelers at 12% and the core sector data for September that came out, cement alone has done well, though it has had a very bleak April to August.

A: 4.7% or something. Cement was growing at 11-12%. This is an investment-driven recovery. If the GDP has to grow at 7%, cement has to grow at 9-10%, and so it did well. Thankfully, it is not zero, which is what for the quarter our analyst is estimating that the industry as a whole, pretty much did not grow; even if it is 2-3%, I do not think that suggests a strong economy.

In the Vahan registration, several distortions can happen if you only look at 15-20 days of data. The bigger picture is that the car market is a much bigger market than the two-wheeler market from an overall economic perspective; even the credit impulse is down. So, credit growth slowed below 13%. So, on a whole range of parameters, the economy has slowed. The question for all of us is, is this a temporary slowdown and if it is a temporary slowdown then we should be buying into the weakness. If it is a much longer-term slowdown then it is better to profit and stay out for a while.

I think it is the form of what I call an unintended level of fiscal and monetary tightening that the economy has slowed down. We can see that corrective action is underway, and my expectation is by maybe January-February, the high-frequency indicators should start improving.

Q: So, you are saying that the lack of expenditure in the first two quarters by the government meant less fiscal impulse and the Reserve Bank of India’s (RBI) liquidity tightening, not so much rate, but liquidity, which is considerably loosened in the Q2, those two will create growth in the second half?

A: Yes, and it was not just the RBI keeping liquidity tight, it was also the discomfort it had on the high loan deposit ratios which were communicated to the banks in March-April, which meant that we pretty much triggered a downward spiral. As you know, deposits are created when loans are given. So, if the banks start cutting loans or slowing down loan growth, it slows down deposit growth, and then the whole thing goes into a downward spiral. So, if you look at incremental credit impulse that is financial year-to-date (FYTD), what we have done, the growth has been far lower than what we saw in FY22-FY23 and in FY24. Therefore, that has had a very significant impact on the economy as well.

Q: And perhaps it was called for, at least in areas like microfinance and unsecured credit.

A: I am not so sure. We have to be very clear on this, while there were possibly excesses emerging in small buckets, there are broad brush tools. So, there is cash reserve ratio (CRR), statutory liquidity ratio (SLR), overall credit growth, loan-to-deposit ratio (LDR), and liquidity coverage ratio (LCR). But then there are these narrow buckets. So, if unsecured personal loans are 7-8% of banking loans or the MFIs are all put together, maybe 4-5% of aggregate loans. If those have to be targeted and it is perhaps required that there be a slowdown there, then the tools have to be different from an aggregate credit slowdown.

Q: To be fair, they did do macro-prudential rules, like, for instance, they increase the risk weight on unsecured debt. They did not raise rates nor squeeze liquidity out…

A: But liquidity was squeezed out

Q: Liquidity was squeezed out in August and that was because last August food inflation went to 7.7%…

A: Not August. The fact that food inflation is very high, and that makes the Monetary Policy Committee’s (MPC) job very hard given that there is now evidence coming that the economy is slowing, but the headline inflation that they need to be targeting is still elevated. Is, I think, a very complex problem. I do not think we should underestimate the challenge. The liquidity tightness and the fact that the central bank created a share, the M3 share, broad money, only two entities that can create, commercial banks and Reserve Bank.

The Reserve Bank of India’s share of incremental money injection in the last two years was 14%. It tends to be about 18-20%. Now, what we have seen since July, because RBI has started to ease on that front, clearly seeing that problems are emerging and the banks take time to understand that this is a signal and with the stance changing to neutral in October, incrementally things are easing further and my expectation is in the next couple of months, even the banks that are still, it is a lagged response to the liquidity tightness a year back, there is still a rush for bulk deposits, the rates are too high, some banks are still holding liquidity that may not be necessary. So as the banking system understands that RBI’s liquidity stance has changed, and has changed for good – that is when the credit impulse starts to improve.

Q: How do you play this in the market? Do you buy the dip? And when you buy the dip, which dips, which sectors?

A: Because the flows were happening because now that we are moving to the market, let us put things in context. We have seen foreign institutional investors (FIIs) selling continue through all of October. So, we have seen about maybe $10-11 billion go out and this is a very strong pace of exit, meaning that just 7-8 years back $15-20 billion of inflow in a year used to be a very good inflow. Now we are seeing $11 billion go out in a month. And while domestic flows have been largely steady, there may have been some high-networth individual (HNI) numbers, which we will see in a couple of days, but on the Employees’ Provident Fund Organisation (EPFO), systematic investment plan (SIP), insurance, all of those flows are give or take $4-5 billion a month, which is a lot, but it is very small compared to $11 billion of outflow. So, if you see that pace of outflow, the market will take a breather.

Now, which sectors to prefer? I would say from April-May-June onwards there was a move to defensives, so IT, staples, and pharma had outperformed significantly despite the fact that for some of these sectors, IT and pharma, the earnings were still getting cut. And this was the fund managers responding to the high-frequency indicators slowing down, but having to cope with steady inflows.

As we start to see a cyclical recovery; you talked about private banks doing a bit better because, for the banking system as a whole, the challenge over the last two years has been that on the quantity side, I mean the raw material that the banks work with, that had started to become a problem and therefore, as we start to see that raw material improving and at the margin, the deposit pressures, the deposit rates should start to ease. After all, on the quantitative side, we are starting to — I do not expect rate cuts to happen, by the way; I mean I do not think there will be room for rate cuts till February or April. April may be the earliest that we should expect. But on the quantitative side, things will start to ease and that should help the banks.

I expect and we saw some order books from the large industrial company yesterday, at least surprised on the upside. So, the capex cycle, at least so far, seems to be intact, and as the cyclical recovery happens, those would be the sectors that I think will benefit more.

Q: Not consumer discretionary, EMS companies?

A: EMS is doing well and I expect, I mean I am a part of the India semiconductor mission, and I am seeing it from close, very proud of what the country has achieved and the momentum that we are seeing.

For the entire interview, watch the accompanying video

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