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India’s growth engine looks to be revving up

Predrag Vuckovic | E+ | Getty Images

After two consecutive years of sub-5 percent growth, India's economy looks to have snapped out of its funk in the April-June quarter, as optimism surrounding the new government drove a pickup in economic activity.

Gross domestic product (GDP) data due out on Friday is expected to show Asia's third largest economy expanded 5.3 percent on year in the April-June quarter, according to Reuters poll, the fastest pace in two years and up from 4.6 percent in the previous three months.

"The recent upturn in PMIs [Purchasing Managers' Index], business sentiment indices, strong capital markets, macro stability alongside a stable political climate signal that the slowdown in the growth cycle is behind us," said Radhika Rao, economist at DBS.

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A particular bright spot for the economy has been industrial production as growing confidence among businesses leads to a pickup in demand.

Industrial production – which includes the output of factories, mines and utilities – rose 3.4 percent on year in June following a rise of 4.7 percent a month earlier.

"Confidence lifted with the May election result, and production of capital goods has surged in recent months," said Glenn Levine, senior economist at Moody's Analytics. Production of capital goods – such as heavy machinery - is seen as a leading indicator of investment activity.

The sweeping victory by the Bharatiya Janata Party (BJP), led by Narendra Modi, has brought about a surge of optimism for the business community that is hopeful the pro-business Prime Minister will push through the reforms needed to reinvigorate the sluggish economy.

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The new government has also provided a positive boost to consumer sentiment, which has translated into increased consumption in some sectors. The auto industry, for example, has seen new car sales rising 15 percent on year in June, the fastest pace in 10 months.

To be sure, it's not just domestic factors contributing to the pickup in growth.

The export sector has also been a positive driver, thanks to an improvement in external demand led by higher growth in the advanced economies. Exports rose over 7 percent on year in July, after growing more than 10 percent for two straight months until June.

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While growth indicators have been perking up, economists caution that below-normal monsoons will drag down agriculture growth.

Regardless, there have been broadly more positive surprises in the economy than negative, say Nomura economists led by Sonal Varma.

"The pickup is broad based with consumer discretionary, exports, transportation, infrastructure and capital goods sectors surprising positively. We expect this momentum to be sustained as sentiment has improved and the government is resolving project constraints," Nomura economists wrote in a report.