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Auto breakdown and its aftermath

The Indian Economy which lost the tag of the ‘Fastest Growing Economy' to China in the March quarter is now facing further troubles. The economy grew at a rate of only 5% in the June quarter which is the slowest growth rate in the past six years. One of the major reasons for the slowdown in the Indian economy has been the fall in the growth rate of the Manufacturing Sector which grew at only 0.6% in the June quarter against 3.1% in the previous quarter.

The poor performance of the manufacturing sector can be attributed to the slowdown in the automobile industry which has been facing troubles for the past ten months now. In August 2019, automobile sales fell by 23.5%, which is the largest fall in the sales in a month on a yearly basis since the industry body Society for Indian Automobile Manufacturers (SIAM) started collecting data from 1997-98.

The Automobile Industry is considered one of the most important industries of the country and as an indicator of the health of the economy. The industry contributes about 7.1% to the Indian GDP and accounts for about 49% of the manufacturing GDP and 15% of the GST revenues for the government. It is also the source of employment for about 37 million people in the nation. Due to these reasons, the slowdown in the industry is one of the major contributors to the decline in overall economic growth. So what exactly led to the fall of the industry over the past ten months and what does the future look like is what this article aims to ponder upon.

The 45 days between Onam and Diwali is considered to be the peak season for the industry, when manufacturers ramp up inventory, given promotional offers as they try to take advantage of the consumers' ability to make a big purchase during this period. On the contrary, this year's demand has been deflated and there are no signs of any revival.

What led to the crisis?

The first quarter of 2018 (April- June) saw double-digit growth in the automobile industry i.e. 14.2%(year-on-year) due to the rollout of GST in July 2017. Passenger vehicle sales were up by 20%, commercial vehicle sales increased by around 51% and the two-wheeler segment saw a growth of around 16%.

But the growth rate slowed down to a single digit in the middle of the year and fell rapidly towards the end of the year. This fall was led by the increase in the crude oil prices which had reached about $86 a barrel in early October. Inventory further started piling up for the dealers because of the low demand during the festive season as there were heavy rainfalls in Kerala, which is a major market for the industry and also because of the patchy rainfalls which led to draughts.

Reasons for the Slowdown:

Regulatory Changes:

Commercial Vehicle sales declined due to the change in the axle load norms, which increased the freight capacity of all the operational trucks in the country by around 20-25% which is equivalent to three years of incremental freight demand.

The cost of production of vehicles has increased by around 15% due to the mandatory additions like an airbag, reverse sensors, anti-breaking system(ABS) and crash conformity standards introduced by the government.

India is switching to BS-VI norms from 1st April 2020, which has created uncertainty in the mind of the consumers. The consumers have been trying to defer their purchase to the next year as they want to buy vehicles that are compliant with the new emission standards. Some consumers are also waiting for discounts on the BS-IV vehicles and hence are deferring their purchase. It is also expected that the cost of vehicles will increase by around 8% because of the introduction of the new emission norms.

Liquidity Crisis:

The IL&FS default in September 2018, has created a liquidity crunch in the entire economy and has further created difficulties for the Automobile Industry. It is estimated that about 60 percent of commercial vehicle sales, 70 percent of two-wheeler sales and 30 percent of car sales are financed by NBFCs. The majority of the rural demand is fulfilled by the NBFC sector. The default by IL&FS has created difficulties as banks are not willing to the NBFC's and even if they get access to the loans, then they are at a very high rate of interest which makes it impossible for the consumers to buy vehicles.

Even loans given by banks have fallen. From about 12-13% growth during the festive season last year, the growth in the loans disbursed by banks has come down to around 5% in June 2019.

Even after successive rate cuts by the RBI i.e. 110 BPS, banks have only transferred about 29 BPS to the customers till June 2019. This has kept the cost of borrowing on the higher side which is another factor affecting the auto sales.

Cost of Ownership:

In the budget 2019, the finance minister announced an increase in the price of petrol and diesel by Rs 2 per liter. Re 1 would be contributed towards the excise duty and the remaining Re 1 will be contributed towards the road and infrastructure cess. The increasing prices of petrol in a major reason why people have started preferring public transport and ride-sharing services like Ola and Uber over owning a personal vehicle.

To make matters worse, the insurance regulator of the country increased the mandatory third-party insurance to three years for four-wheelers and to five years for two-wheelers which has led to a further increase in the cost of ownership of vehicles, as these costs have to be paid upfront while buying the vehicle.

Apart from this, the ministry of road and transport has proposed to increase the registration fees for internal combustion engine vehicles to Rs 5,000 from an earlier rate of Rs 600. Renewal of registration will now cost about Rs 15,000.

High Tax Rates:

Under the GST regime, automobiles are taxed at 28%, which is the highest tax rate. AN increase in the cost of ownership along with high taxes is discouraging the public from buying vehicles. Not only the GST rate but the cess paid on vehicles is also further increasing the cost of vehicles.

The Road Ahead

Recently, to give a boost to the auto industry, the government has announced some measures which include:

  • The ban on government agencies regarding the purchase of new vehicles has been lifted.

  • A vehicle scrappage policy will be implemented which will help in increasing sales as most corporates and individuals will purchase vehicles quickly to get some scrap value on their old vehicles.

  • The proposal of increasing the registration fee on vehicles as well as the fees of renewal of registration of vehicles is being deferred till June 2020.

  • The government also announced that BS-IV vehicles which are purchased till 2020, will remain operational for the entire period of their registration.

  • A proposal of cutting the GST rate from 28% to 18% on automobiles has also been given to the GST Council.

Even after announcing several measures the chances of revival of the auto industry shortly look very bleak. Most of these measures will not have a significant impact on the purchasing capacity of the public and also no immediate relief will be available through these measures. Rural demand has been impacted the most because of irregular monsoon and the wage rates have been growing only at 0.87% PA. The push that the government is giving to the Electric Vehicles segment is also creating problems for the industry as it is creating confusion in the minds of the final consumer.

Since the slowdown, about 3.5 Lakh jobs have been lost and it is expected around 5 lakh jobs will be lost in the next quarter as the majority of the auto manufacturers as well auto component manufacturers have shut down their plants to prevent the inventory from piling up.

Due to the close links of the industry with the state of the economy, the revival of the economy from the current slowdown is the only hope for the auto industry going forward. The government needs to act soon and announce stronger measures for the industry or else the dream of becoming a 5 trillion-dollar economy by 2024 will remain a dream.

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