Services Driving Growth, Progress in Manufacturing Remains Slow, Says MPC’s Ram Singh

Our macro fundamentals are robust. The centre's capex is holding up well. The demand boost from income tax reliefs and monetary easing, along with the productivity gains from GST rationalisation, makes the GDP growth rate of 6.5-7.0% realistic for FY26 and beyond. But it is not entirely broad-based. The services sector remains the most significant contributor to the growth rate. Some sectors, like construction, are doing very well. Parts of the manufacturing sector are also doing okay.  

Overall, progress in manufacturing remains slow.  The 50% US tariffs have reduced the competitiveness of our exports. Several labour-intensive industries, such as textiles, leather, gems and jewellery, and seafood—mainstays of export employment—have taken a hit. These industries are dominated by MSMEs that lack the financial resilience to withstand external shocks. The Centre has stepped up its support for the tariff-hit sectors and the MSMEs.  Nonetheless, the headwinds emanating from a fluid geopolitical scenario, heightened global uncertainties, and volatility in international financial markets are holding back ‘animal spirits’ and keeping growth momentum below potential levels.

To see the impact of low inflation on the fiscal situation, note that fiscal deficit and the public debt are often measured as a percentage of GDP. Also, low inflation slows the nominal GDP growth. Additionally, it makes it difficult to achieve the targeted value of tax revenue. These, in turn, make it difficult to meet budgetary targets and to reduce the debt-to-GDP ratio. While real economic growth is healthy, very low inflation levels can signal a worsening fiscal situation.

As to businesses, especially those in highly competitive markets, have little ability to raise prices through the market power channel. Very low inflation can squeeze their profit margins. Additionally, it increases the real value of debt and interest rates, dampening private-sector investment plans.

I am mindful of the concern that further interest rate cuts could make it difficult for banks to mobilise deposits to support credit growth. But what matters more is the total savings and the flow of funds to the real sector. The banks are only one of the channels for this. An increasing share of savings is going to the private sector through bonds and the equity markets. According to the RBI data, the total flow of resources from non-bank sources to the commercial sector increased by ₹2.66 lakh crore in FY26 so far, more than offsetting the decline in non-food bank credit. This seems to be a structural shift.

In principle, rate cuts can also affect aggregate savings rates. India’s gross domestic savings rate has moderated over the last decade, falling from 34.6% of GDP in FY12 to 30.7% in FY24, with a modest uptick in FY25. However, the interest rates do not seem to be the main cause. During 2014-24 (excluding the two Covid years), while the policy rates have varied significantly between 7.75% and 5.50%, the aggregate saving rates have fluctuated between 29.6% and 32.2%. Several factors influence the aggregate saving rate, including demographic and other structural changes in the economy, differences in the rates of return on different forms of capital, and labour market dynamics, including the distribution of wages and income across economic strata.

At the household level, interest rates do matter. The RBI’s analysis of household savings shows a shift away from bank term deposits. The share of term deposits declined from 50.54% in FY20 to 45.77% in FY25, as households shifted to higher-yielding alternatives such as mutual funds and equities. Overall, the interest rates matter more for the portfolio choices than for total savings.

You are right. Aggregate consumption and savings often pull in opposite directions. This macroeconomic fact underscores the need for us to explore alternative sources of demand and savings. We need to promote exports through the diversification of the product lines and overseas markets. Similarly, we need more FDI to supplement domestic savings and investment.

The interest rate differential with the US and other major economies is one of several factors to be considered. Capital flows have been steady in recent years, while the interest rate differentials have changed significantly. The outflows and some pressure on INR over the last six months are more a result of portfolio investors' profit bookings triggered by uncertainty from US tariffs. Portfolio investors have started to come back.

Going forward, markets expect a few more rate cuts by the US Fed in 2025, in addition to the 25 bps cut in September. This is a source of comfort, to the extent that the interest rate differentials matter.

Yes, we have to watch out for a durable pickup in the private capex. Several indicators suggest a significant pick-up in private investment. Excess capacity is no longer a problem. Manufacturing and services PMIs have surged to all-time highs. There is a significant pickup in the flow of funds to the corporate sector through non-bank channels. These signals on private capex growth are encouraging.

At the same time, we are yet to see the exuberance in private capex and the ‘animal spirits’ following a strong dose of monetary and fiscal measures delivered this year. Clearly, external uncertainties are holding back momentum. We have to wait for the incoming data on private capex, but overall, the economy is proving resilient.  

Several indicators suggest that these measures are having the intended effects on demand and private investment intentions. According to official sources, the GST rate cuts are being passed on to consumers for 54 daily-use items monitored by the government, boosting demand particularly for automobiles, consumer durables, and apparel. This pick-up in demand is expected to add to the revival in private capex, especially when manufacturing PMI surged to a 17.5-year high of 59.3 in August 2025, along with strong business optimism. Services PMI reached a 15-year high of 62.9 in August.

Impact of US tariffs on export-oriented MSMEs remains a concern. Both the Centre and the RBI are working to mitigate the adverse effects on MSMEs. Benefiting from interest rate cuts and the Centre’s credit-loss guarantees, MSMEs accounted for 22% of incremental non-food bank credit in FY25.

A change in stance to accommodative increases the odds of a rate cut in this easing cycle. So, rather than confusing the market, it provides clearer forward guidance to investors and the money and bond markets. At this point, signalling the likelihood of a rate cut seems a good idea. Clearly, there is a scope for a rate cut, which can be leveraged to sustain the growth momentum for a longer period by extending the easing cycle. It will strengthen the transmission process underway (induced by the 100 bps rate cuts so far), which, in turn, will boost the income and demand effects. Furthermore, expectations of a rate cut will likely put downward pressure on bond yields, thereby enhancing the appeal of the bond market to borrowers seeking to raise funds through market instruments.

As to the timing and magnitude of additional rate cuts, we have to watch developments on four fronts. One, the depth and breadth of transmission of the 100 bps cuts in policy rates to the financial and real sectors of the economy. Two, changes, if any, in the inflation trajectory for the coming quarters. Three, the GDP growth rate. Fourth, developments on the external fronts. Transmission of the previous rate cuts is satisfactory. Continuation of the benign inflation trajectory or any stress on the growth front would further strengthen the case for additional rate cuts, ceteris paribus. It is difficult to provide any forward guidance on the external front.