Gross Fixed Capital Formation

• 26 Mar 2025

For Prelims: Capital expenditure, Gross Fixed Capital Formation, Gross Domestic Product, 8th Pay Commission, Sovereign Green Bonds 

For Mains: Declining private capex and its impact on GDP, Role of Gross Fixed Capital Formation in economic growth 

Source:BL 

Why in News? 

The share of private capital expenditure (capex) in India’s Gross Fixed Capital Formation (GFCF) has declined to a decade-low of 33% in FY24. 

What is Gross Fixed Capital Formation? 

• GFCF: Also known as "investment," GFCF refers to the net increase in an economy's fixed capital assets (investment minus disposals) over a specific period.  
  • It includes investments in infrastructure, machinery, equipment, and other durable assets that contribute to long-term economic growth. 
  • It is a key part of Gross Capital Formation (GCF), which also includes Change in Stocks (Inventories) and Net Acquisition of Valuables (items like gold, gems, and precious stones etc,).  
• Significance: It constitutes around 30% of India’s nominal Gross Domestic Product (GDP), making it the second-largest component after private final consumption expenditure. 
  • GFCF is crucial for economic growth as it directly boosts GDP, enhances productivity, and improves living standards.  
    • It promotes self-reliance by creating capital assets and supporting innovation. 
  • GFCF as an indicator of business confidence, especially in the private sector, reflects future economic potential and overall output capacity. 
  • GFCF Trends: From FY15 to FY24, GFCF grew at a compounded annual growth rate (CAGR) of 10%. 
  • However, growth has been slowing since FY23, with GFCF growth moderating to 9% in FY24 from 20% in FY23. 
• Reasons for Declining GFCF: In FY24, private capex share in GFCF fell to 33% as unlisted entities witnessed a contraction, leading to an overall decline in GFCF. 
  • A global slowdown and weak export demand for Indian products have reduced investment in production capacity, while the influx of cheap Chinese imports in certain sectors like textile have discouraged domestic expansion. 
  • In FY24, the cash flow from operations to capex ratio rose to 1.6x (from 1.3x in FY14–20). 
    • However, instead of investing in new assets, firms prioritized debt repayment leading to a decline in capex and GFCF. 
• Implications of Decline in GFCF: A decline in GFCF hampers long-term economic growth by limiting productive capacity and job creation.  
  • It delays infrastructure development, reduces private sector participation, and signals weak investor confidence potentially discouraging foreign direct investment (FDI). 
  • Decline in GFC leads to over-reliance on public spending which is unsustainable and may hinder innovation, competitiveness, and inclusive growth. 

What Can Be Done to Revive Private Capex and GFCF? 

• Boost Domestic Consumption: Fast-track the 8th Pay Commission and increase MNREGA wages, as recommended by the Parliamentary Standing Committee on Rural Development, to boost rural spending and overall demand. 
  • Higher disposable income will encourage businesses to invest in production capacity, leading to increased Capex and GFCF. 
• Strengthen Exports and Imports: Finalize Free Trade Agreements (FTAs) with the UK and the EU to integrate Indian businesses into global supply chains, boosting capital formation and investment. 
  • To counter Chinese imports revive traditional industries (e.g., textiles, toys) by integrating them with e-commerce platforms to expand market reach. Impose anti-dumping duties on Chinese steel to protect domestic manufacturers and support the MSME ecosystem. 
• Private Sector R&D and Innovation: Operationalize the Rs 1 lakh crore innovation corpus (Budget 2024-25) to incentivize private investment in R&D to enhance global competitiveness and long-term economic growth. 
• Industrial Infrastructure: Provide infrastructure status to the hospitality sector to attract private investments. 
• Sustainable Growth: Scale up green finance through sovereign green bonds to fund climate adaptation projects and attract private investments.  
  • Promote carbon trading incentives and circular economy models to foster sustainable industrial growth, ultimately driving higher GFCF and private capex. 

Drishti Mains Question:

How does a decline in Gross Fixed Capital Formation impact long-term economic growth in India?

 

UPSC Civil Services Examination, Previous Year Question (PYQ)  

Prelims:

Q. A decrease in tax to GDP ratio of a country indicates which of the following? (2015)

1. Slowing economic growth rate 
2. Less equitable distribution of national income 

Select the correct answer using the code given below:  

(a) 1 only   

(b) 2 only  

(c) Both 1 and 2   

(d) Neither 1 nor 2  

Ans: (a)

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Mains:

Q.1 “Industrial growth rate has lagged behind in the overall growth of Gross-Domestic-Product(GDP) in the post-reform period” Give reasons. How far the recent changes in Industrial Policy capable of increasing the industrial growth rate? (2017)