Amid the euphoria of achieving 9.3 per cent GDP growth for the first quarter of 2007-08, the underlying trends that drive GDP have largely been ignored. The CSO has recently started giving out quarterly data on the components of demand that add up to final GDP, that is, consumption, investment, exports and imports.

Looking at GDP from the demand side, the growth rate appears to have been much lower -- as low as 7 per cent. The difference between the headline growth rate of 9.3 per cent and this rate is being attributed to measurement errors.

There are two basic approaches to measuring GDP. The first (the one that has traditionally been used in India) is to take the sum of the output of the three key sectors in the economy -- agriculture, services and industry. The other approach, which is incidentally more popular with economists abroad, is to look at the different components of demand that constitute aggregate GDP.

One of the first equations seen in economics texts is that output or gross domestic product equals the sum of the different components of demand -- consumption, investment, net exports and so on.  So theoretically, the two approaches should yield the same final number for GDP. The demand-based methodology enables economists to make a much more sensible analysis of national income data than by looking merely at the sectoral composition.

For one, it enables them to identify the critical drivers of growth and identify the impact of policy changes like an interest rate hike on growth. It also helps in isolating purely 'domestic' growth drivers from global factors. For instance, a rise in consumption is a purely domestic phenomenon while a spurt in export growth is likely to have more to do with global trends than domestic ones. While this data is now available, it has not yet been used extensively by economists in India. We find it particularly useful in isolating certain trends.

What does the demand-side data tell us? There has been significant moderation in virtually all components of demand when we compare the growth rates in the first quarter of 2007-08 with that a year ago.

Clearly, rising interest rates have taken a toll: the growth in private consumption has fallen by almost one per cent and our guess is that the slowdown in white goods demand would have a played a major role in this.

Incidentally, private consumption is the largest demand component, accounting for over 60 per cent of GDP. Thus, even a decline of just about a percentage point has major implications for overall growth.

The appreciating currency has also had an impact on net exports with export growth falling and imports rising. Rising oil prices haven't helped either. If global growth were to slow down a little in response to the sub-prime mess there is a risk of exports moderating further.

While the headline data shows some moderation in investments as well, further analysis shows that fixed capital formation (one interprets this as investment in things like plant, equipment and infrastructure) has held up quite well.

The slowdown is due to the other two components of investment: inventory accumulation and valuables. The decline in inventory accumulation might just be sending us an early warning signal. Firms typically tend to go easy on inventory building when they anticipate a slowdown in demand in the future. Much of the debate and discussion on business cycles in advanced economies like the US revolves around movements in the inventory cycle.

However, the fact that fixed capital formation growth has been unaffected seems to suggest that at least until the end of the first quarter, the increase in interest rates had not hindered firms' capacity expansion plans or public spending on projects.

The slower growth in government consumption is probably the result of smoother spending patterns this year compared to last year when bulk expenditures were made in the first quarter only to be followed by a decline in spending. Thus, there might just be a recovery in this component in the next quarter.

Overall, the trends are not as encouraging as one would believe if one were to look at the focus entirely on the headline growth rate. Growth seems narrowly concentrated in fixed capital formation which could surely get dented if consumer demand were to remain soft. In short, if companies expect demand to flag, they might just put their investment plans on hold.

There is, for instance, some anecdotal evidence that auto-component manufacturers are reconsidering their investment plans in the wake of sluggish automobile sales.

On the other hand, one could argue that the business cycle will remain strong as firms are expanding capacities to build long-term competitive advantages.

This will ultimately have an impact on consumer incomes and therefore on consumer spending. That, in turn, would encourage further investment expenditure to catch up with rising demand, a phenomenon economists describe as the 'multiplier-accelerator effect'. This will outweigh the moderating impact of interest rates in the longer term.

The question remains open but we would like to see more analysis of which way the wind is blowing.

Finally, the huge measurement error that one has to live with in trying to reconcile the two approaches to GDP measurement leaves us feeling a little uncomfortable.

Some degree of discrepancy is bound to seep in crunching datasets of this size but something as large as 2.3 percentage points of growth would surely leave any analyst feeling a little squeamish about using these numbers. We can only hope that the data errors are spread evenly across the different demand components so that the underlying trends that the demand-based approach is throwing up remain unhampered.

Barua is Chief Economist, HDFC Bank [Get Quote] and Ganguly is an independent economist. The views are personal.