India Faces Decline in Capital Productivity Amid Growth Challenges

India's economic performance is at a critical juncture as the nation struggles to convert increased investments into consistent high growth. Shaktikanta Das, principal secretary-2 to the Prime Minister, recently highlighted that the country is close to achieving an 8 percent growth rate, largely due to recent reforms. However, historical and current data show challenges that need to be addressed for sustained progress.

Since the availability of national accounts data over 75 years ago, India's economy has crossed the 8 percent growth mark only seven times. Notably, five of these instances occurred after the economic liberalisation reforms of the early 1990s, reflecting the impact of policy changes on growth potential. Yet, the fiscal year 2023-24 did not reach this milestone, despite higher investment rates in recent years.

The investment rate is a critical factor in economic expansion. In four of the seven years with 8 percent or more growth, the investment rate hovered around 30 percent of GDP. In contrast, recent years have seen investment rates exceed this figure, peaking at 34.3 percent in the first quarter of fiscal year 2026-27. Despite this, the growth rate achieved was 7.8 percent, just shy of the 8 percent target. This gap points to a significant decline in capital productivity, meaning the economy is getting less output per unit of investment than before.

One explanation for this trend is the nature of government spending. Much of the capital expenditure is directed toward infrastructure projects, which often have long gestation periods before generating economic returns. This contrasts with other sectors where investments might yield quicker growth boosts. As a result, even though infrastructure development is vital for long-term growth, it might temporarily dampen capital productivity metrics.

Compared to its regional peers, India has historically maintained relatively strong capital productivity. Countries like Vietnam and Malaysia currently outperform India in this regard, indicating areas where India could improve efficiency and output from its investments. Enhancing capital productivity is essential for India to sustain an 8 percent annual growth rate over the coming years.

The reforms mentioned by Shaktikanta Das are expected to address these productivity challenges. These include policy measures aimed at improving business climates, encouraging private sector participation, and streamlining regulatory frameworks. By increasing the effectiveness of capital deployment, India could better harness its investment surge to generate robust economic growth.

India's journey toward consistent high growth is influenced by multiple factors, including demographic advantages, technological adoption, and global economic conditions. The ability to translate investment into tangible economic output remains a key hurdle. As the government focuses on infrastructure and structural reforms, monitoring capital productivity will be crucial to ensure investments contribute meaningfully to growth.

In summary, while India has made significant strides and is close to achieving an 8 percent growth rate, the decline in capital productivity poses a challenge. To maintain and exceed this growth threshold, the country must improve how efficiently investments convert into economic gains, balancing infrastructure development with measures that yield quicker returns. The next few years will be critical in determining whether the current reforms can deliver the sustained growth India aspires to achieve.