India's industrial output fell for the first time in more than two years in October as waning consumer demand took a toll, adding pressure on the Central bank to ease monetary or liquidity conditions, possibly as soon as on Friday.
Production at factories, mines and utilities plunged 5.1% from a year earlier, far worse than a median forecast for a 0.5% drop in a Reuters poll and the deepest drop since March 2009. September's annual output was revised marginally upwards to 1.99%.
"It is a lot worse than we expected. The nearly two years of monetary tightening is clearly being felt," said Tim Condon, head of Asian Economic Research at ING in Singapore.
"While India may not be a manufacturing-driven economy, more data prints such as this would be a worrying sign. While we expect a status quo in terms of interest rates from the RBI (Reserve Bank of India) this week, the pressure is clearly building on them to start easing," he said.
Indian stocks extended their losses to 0.7% after the data, while bonds, swaps and the rupee were little changed.
On Friday, India's finance ministry slashed its economic growth forecast for the fiscal year ending next March to between 7.25 and 7.75% from 9.0% estimated in February, and Monday's dismal figure adds to the woes of Prime Minister Manmohan Singh's embattled government.
The data provides further stark evidence of a slowdown in the economy and could sway a hawkish central bank to begin easing its policy stance, although the RBI is not expected to begin cutting interest rates at its mid-quarter review on Friday after 13 increases since early 2010.
Instead, some market watchers expect it to lower the cash reserve ratio, the proportion of deposits banks must keep with the central bank in cash, in order to ease tight market liquidity, or pledge more support for short-term funding markets.
The RBI has raised its key lending rate by a total of 375 basis points since March 2010 to combat inflation that has stayed above 9 percent for nearly a year. However, its rate hikes have done more to dampen growth than tame inflation.
In the July-September quarter, annual economic growth was 6.9%, the slowest in more than two years.
Manufacturing output, which contributes about 76 percent to industrial production, fell an annual 6 percent in October, reflecting weak consumer demand at home and overseas.
Production at mines fell 7.2%, hurt by policy and regulatory uncertainties.
Consumer non-durables output shrank an annual 1.3%, while capital goods production -- a barometer of investment in the economy -- plunged 25.5%.
With investment stalling, many private economists expect the economy to struggle to grow even at 7% this year.
While the RBI still remains focused on cooling inflation, a slowdown in the domestic economy and global uncertainty are pushing growth onto its policy radar.
Emerging economies, faced with headwinds from Europe's festering debt crisis and a sluggish US economy, have begun to take steps to shield themselves.
China and Brazil are among several countries that have relaxed monetary policy. The RBI is expected to reverse its tight monetary stance next year if inflation eases below 7%.
Until then, industrial output is expected to remain weak. In a sign of things to come, manufacturing sector expansion slowed in November, although car sales posted their first monthly rise in five months.
The slowdown in India's growth has put government finances under stress. Tax receipts lag budgeted estimates, while expenditures are climbing at a faster pace.
Analysts expect the fiscal deficit to be bigger than forecast this year, as choppy market conditions undermine government divestment in state-run firms, worth 400 billion rupees ($7.63 billion).
The fiscal deficit is already nearly 74% of the target for the financial year to March 2012. A Reuters poll forecast it will reach 5.5% of GDP, or nearly 1 percentage point over target, which will force up government borrowings.
The government has already unveiled Rs 528 billion of extra borrowing for the remainder of this year.