India’s Growth Surge Outpaces its Productivity Gains

The Indian economy has shown a knack for defying the pessimists. The 8.2% GDP growth print in the second quarter and an average of over 8% in the first half of the year have revived an old question: is the economy truly lifting its potential, or is it simply benefiting from a cyclical upswing supported by benign prices and a favourable base? The headline figures are impressive, but the underlying picture is more complex. 

For several years, analysts have pegged India’s potential growth at around 6.5%. This reflected stagnant labour productivity and weakening capital efficiency. Capital productivity had waned through the 2010s, labour productivity barely moved, and the economy struggled to break through its structural ceiling. The post-pandemic period has, however, offered a flicker of optimism.

The incremental capital-output ratio, which captures how much capital is needed to generate a unit of output, has improved from 4.6 units pre-pandemic to about 4 today. Infrastructure upgrades have played a central role in this shift. Road construction has more than doubled its earlier pace, port turnaround times have halved, and power shortages have eased. This reflects a clear expansion of public capital expenditure, which has doubled from 1.7% of GDP in 2019-20 to 3.1% in 2025-26.

These public investments have borne fruit, particularly in the construction sector, where capital productivity has improved from 4.5 pre-pandemic to 3.7 as of 2024. But the real standout is the utilities sector—think power, gas, and water—where the ICOR has plunged dramatically from 20 units to just 10. What’s more encouraging is that this revival is not confined to the public sector. Private investment in utilities has doubled its share from 22% to 40%, driven by renewable energy ventures. This hints at an emerging ecosystem where government-led infrastructure acts as a magnet for private capital.

Structural Faultlines
The gains, however, are uneven. Manufacturing remains a stubborn outlier. The ICOR there has worsened in recent years—a signal that capital is becoming less efficient at generating output. True, ICOR has its flaws: it is influenced by GDP fluctuations and masks sector-specific shocks. The manufacturing sector has struggled with volatile global commodity prices, rising protectionism, and an oversupply in certain global markets—all of which have dampened expansionist impulses domestically over the last few years. Private sector investment’s share in manufacturing has therefore slipped from 76% before the pandemic to 71%, underscoring private caution.

At the aggregate level, private sector investments as a share of total investments have moderated to 34% in 2023-24 from 37% pre-pandemic. This raises the need for catalysing greater private investments as the government, compelled by fiscal consolidation imperatives, may not be able to grow its capex targets at the same pace as seen in recent years.

Labour productivity presents an even more pressing challenge. Improvements in capital productivity alone cannot lift potential growth on a durable basis. As AI and new technologies reshape work, India risks missing the opportunity presented by its expanding labour force unless health, education and skilling receive sustained investment. The new labour codes are welcome, but they are only a starting point. A more productive workforce would raise potential growth and support a more durable rise in per-capita incomes and consumption.

Taken together, these sectoral contrasts offer a more nuanced interpretation of the current growth cycle. The recent 8% print is encouraging but does not yet confirm a permanent elevation in potential. Too many underlying drivers remain uneven or incomplete.

Perhaps the MPC meeting this week, to decide future course of action on the policy rate, must view recent GDP growth numbers in this context. The aspiration of higher potential growth requires both fiscal as well as monetary action. If low inflation has created policy room, there is a case for using it, especially when global headwinds for sectors like manufacturing are beginning to intensify.

None of this is to understate the real progress achieved. Converting a cyclical sprint into a structural lift will require more than public investment and favourable data. It depends on rebuilding private sector confidence, strengthening human capital, and crafting policies that acknowledge how uneven the recovery still is.

India may be defying the pessimists for now. The test is whether it can continue doing so once the cycle turns.

* Views expressed are the author’s own and do not necessarily reflect those of her organisation.