A Temporary Boost or Long-Term Strategy?
As India prepares for the Union Budget in July, there is a strong push for increased government capex. This suggestion is notable as investment traditionally falls under the corporate sector’s domain, including Public Sector Undertakings (PSUs). The call for more government spending raises questions about the corporate sector’s role in driving investment.
In FY24, India’s national gross fixed capital formation expenditure was ₹91 lakh crore, approximately 31% of GDP. Assuming the FY25 GDP is around ₹328 lakh crore and the investment ratio remains unchanged, capital formation would reach ₹102 lakh crore. The Interim Budget targeted a capex of ₹11.11 lakh crore, which constitutes 11% of the total capital formation. This raises two critical questions: How much can 11% of the total drive overall investment, and how much more does India Inc. expect the government to do?
Can the Government Sustain High Capex?
Data on the Centre’s capex is revealing. The government increased total capex from ₹3.36 lakh crore in FY20, just before COVID-19 struck, to ₹11.11 lakh crore for FY25—a multiple of 3.3 times. This significant increase was made possible by raising government borrowings from ₹9.33 lakh crore in FY20 to ₹15.55 lakh crore in FY25. Consequently, the fiscal deficit ratio jumped from 4.6% of GDP in FY20 to 9.2% in FY21, gradually rolling back to 5.1% in FY25.
During the pandemic, the government had to spend heavily on both welfare schemes (such as MNREGA, PM-Kisan, housing, and free food) and capex to keep the economy moving when the private sector was unable to do so. However, this accelerated growth in capex cannot be sustained indefinitely. The government faces the dual challenge of maintaining fiscal deficit levels at acceptable rates (4.5% by FY26 and potentially 3% in the subsequent three years) while continuing to fund necessary social welfare programs until private sector employment rises significantly.
Time to Step Up Investment
Logically, the onus of investment must shift to the corporate sector. According to NSO data, the corporate sector contributed 44% to gross fixed capital formation in FY23, followed by the household sector with 42%. Interestingly, 70% of the household sector’s capital formation was in dwellings, significantly supported by government initiatives like the PM Awas Yojana.
While the government has indirectly contributed to capital formation through household support, the corporate sector must step up. The compound annual growth rate (CAGR) of gross fixed capital formation was 11.5% from FY18 to FY23, with the corporate sector and PSUs growing slower than this average, while the government and household sectors grew faster. Investment decisions in the corporate sector hinge on return on investment, prioritizing business considerations over other factors.
Capacity Utilization and Economic Conditions
As of March, the corporate sector’s average capacity utilization was 76.5%, according to the RBI. This is close to the 78-80% range that typically triggers fresh investment. Industries linked to infrastructure, such as steel, cement, chemicals, and machinery, have seen steady investment growth. However, the absence of a demand revival over the last two years, due to lower rural incomes and high inflation, has eroded purchasing power, causing FMCG and durable goods companies to hold back on investments until economic conditions improve.
The government plays a crucial role in kickstarting growth for infrastructure industries, but the corporate sector needs to accelerate its plans. With GDP growth prospects bright over the next five years, averaging around 8%, there is ample reason to invest across sectors. Employment generation is key, as it boosts income and consumption power. The private sector, particularly manufacturing, must invest and create jobs to initiate a virtuous cycle of growth.
