The HSBC manufacturing Purchasing Managers' Index (PMI) eased for the second month to 52.8 in August, its lowest level since November, from 52.9 in July. However, it has kept above the 50 mark that divides growth and contraction for more than three years.
"The momentum in the manufacturing sector eased further on the back of weak external demand and output disruptions caused by the major power failures in early August," said Leif Eskesen, economist at HSBC.
Sixteen states in northern India, home to almost half of the country's 1.2 billion people, fell into darkness last month as power grids collapsed, disrupting businesses and economic activity.
Any slowing in the manufacturing sector, which accounts for a little over 15 percent of India's gross domestic product, does not bode well for the overall economy, especially as this sector has been the biggest drag on growth.
The Indian economy grew 5.5 percent in the quarter to June, languishing near its slowest pace of growth in almost three years, data showed on Friday.
With no concrete signs of a resolution to Europe's debt crisis, the new export orders sub-index - an indicator of prospective overseas business - fell for the second month in a row to 49.2, its deepest contraction since October.
The euro zone, India's largest trade partner, has been ravaged by a debt crisis that began in Greece and appears to be hurting growth in heavyweight economies like France and Germany, posing further risks to the Indian economy.
While domestic orders helped increase output in August, the pace of expansion was the slowest since November.
The lone bright spot among the survey's otherwise gloomy data was that new jobs were created at the fastest pace since the series began more than seven years ago.
The survey also showed output prices, or what consumers pay for products, jumped in August and may push India's headline inflation rate up from July's 6.9 percent.
At the same time, input price pressures remained elevated, giving little room for the Reserve Bank of India to act on increasing calls for it to cut interest rates and support growth.
"While input price rose at a slightly slower pace, output price inflation picked up due to higher import costs and taxes. With the slowdown partly supply driven and inflation risks still lingering, these numbers underscore that the room for policy rate cuts is very limited at the moment," Eskesen added.
The RBI next meets on Sept 17 and with inflation refusing to ease substantially the chances of a rate cut appear slim, even with growth slipping, after the central bank placed the onus of reviving the economy on the government.
Pending government reforms include allowing foreign direct investment in the retail and airline sectors coupled with pension and insurance reforms.
Copyright Thomson Reuters 2012