Post-budget mood swings

Having earned kudos for his balancing act, Finance Minister Chidambaram is up against the challenge of getting some early positives by way of investor response, and desperately needs a reduction in interest rates to help secure the targeted 6.5 per cent growth in fiscal 2014.

He proposes to take the budget message of growth with embedded fiscal prudence to investors across the country as well as foreign investors when he goes to Washington for the Fund-Bank spring meetings in April.  He needs to get more capital inflows to finance the bulge in current account deficit, which has become even more worrisome than the fiscal deficit.

Chidambaram has often underplayed supply-side problems, which has slowed down corporate investments, while he had been citing ‘high interest rates’ as a significant constraint, besides the global crisis, which pushed the economy to a decade low of five per cent in 2012-2013. Domestic bottlenecks and the impact of high inflation depressing savings and investment had been conveniently ignored as contributory factors, more realistically assessed in the pre-Budget Economic Survey.

Nor in his budget speech,  Chidambaram held out any cast-iron assurances on faster regulatory and project clearance procedures affecting corporate and infrastructure investment. This has been the weakest area in governance. Such assurances would have given investors more confidence and provided some substance to his modestly ambitious growth target of 6.5 per cent. Whether the economy can bounce back to the budgeted growth depends on tackling what the prime minister listed as three barriers – fiscal deficit, current account deficit and inflation. Action on all these fronts is needed to validate the revenue estimates budgeted at 10.9 per cent of GDP.

The finance minister’s main thrust was on fiscal consolidation and has predictably demonstrated his credibility for the current year. A sharp reduction in plan spending of the order of Rs 90,000 crore coupled with some rise on non-plan side, has resulted in net reduction by Rs 60,000 crore. This helped Chidambaram to contain fiscal deficit at 5.2 per cent of GDP, less than the 5.3 per cent he had committed himself under his fiscal consolidation roadmap.

The rating agencies have approvingly noted the new budget targets including the pegging of fiscal deficit at 4.8 per cent of GDP in 2013-2014. But the assumptions underlying the revenue growth and deficit target are regarded as optimistic. Moody’s puts the growth estimate at 6.2 per cent for fiscal 2014, subject to normal monsoon and improvement in global economic recovery. Revenue receipts are based on a 13.4 per cent increase in GDP growth at current prices (6.5 per cent in real terms).

Overall, the finance minister may have averted a ratings downgrade, which would have hurt investor sentiment and capital flows. On the non-tax revenue side, the Indian credit rating agency CRISIL says divestment and spectrum sale estimates at Rs 98,000 crore are ‘too ambitious’. Total revenue growth would be 23.4 per cent and expenditure rise by 16.4 per cent, (with a 29 per cent growth in plan spending and a 10 per cent reduction in subsidy spending).

Far from any austerity that fiscal deficit reduction would normally enjoin, the finance minister has flourished the substantial acceleration in expenditure, fully funding flagship programmes and providing special allocations for women, youth, minorities etc. This additional plan spending increase of some Rs 1,26,000 crores, or 29 per cent over RE of 2012-2013  cannot be a real step-up for the second year of the 12th plan. Nevertheless, Chidambaram can point this as a major step-up, which would serve as growth stimulus, though large expenditures add to aggregate demand and have inflationary potential. He says the budgeted expenditure has been kept at a correct level.

As percentage of GDP, total expenditure is estimated to remain at same level as in RE 2012-2013 at 14.3 per cent. Having budgeted for an additional revenue of Rs 1,85,503 crores over the revised estimates of the current year and expanded expenditure, in line with projections of a 6.5 GDP growth in real terms and holding  down fiscal deficit at 4.8 per cent of GDP, Chidambaram’s has raised the stakes for credibility and fiscal integrity in the coming year. No wonder a sense of desperation is already in evidence for the finance minister to seek recourse to legislative provision empowering tax authorities to arrest larger defaulters in indirect taxes.

According to the finance ministry, the budget is designed to aid growth revival of the economy and by bringing down the deficit, it would ‘leave space for private sector credit as the investment cycle picks up’. Now, reviving investments is the major task for the finance minister. Certainly, one positive is the investment allowance at 15 per cent for companies investing in Rs 100 crore or more in plant and equipment. The Cabinet Committee on Investment needs to turn itself an engine of growth at the highest level and get expeditious clearing of all procedural and regulatory hurdles.  Essential legislation like land acquisition must be put through securing maximum cooperation in Parliament. This applies as much to the pending legislation on insurance and pension. Removal of infrastructure bottlenecks and reform enactments would make a distinct change in the outlook for growth in 2013-2014.

In the run-up to the new fiscal year beginning on 1 April, the finance minister has made known his intention to announce more changes, tax-related as well as some non-legislative measures, during the Budget discussions in Lok Sabha. Here is an implicit recognition that his ‘responsible’ budget, given a mixed reception needs to do more to tone up business confidence and also address some of the genuine concerns in different segments of the economy. Meanwhile, with a sense of accomplishment on fiscal consolidation and re-setting the economy for growth, Chidambaram looks to the RBI to take ‘right decisions’, i.e. reduction of policy rates to help realise the growth target. The central bank has long wrestled with the growth-inflation dynamics and insisted on the sustainability of fiscal reduction, especially with the unrelenting rise in consumer prices, chiefly food, and the incomplete pass-through of higher international oil prices at the retail level.

The petroleum subsidy has been kept down to Rs 65,000 for 2013-2014 as against Rs 96,879 crore, RE in the current year. This has raised doubts about oil subsidy being contained at such a lower level without further deregulatory steps for which the UPA government should be prepared to ‘bite the bullet’ in a pre-election year. Chidambaram, however, sticks to ‘inflation on decline’ concept and said WPI had been ‘brought down’ to about seven per cent and core inflation to about 4.2 per cent. On this basis, he hopes that the RBI governor, having regard to all that has been spelt out on fiscal reduction and the assurances on augmenting the supply side to meet the growing demand for food items, would take the decision ‘in his best judgement’. RBI is due to announce its mid-quarter review of monetary policy on 19 March. By then there should also be clearer signs as to whether headline and core inflation rates have continued on declining path, in February.

Nudging RBI is an easier option for the finance minister than persuading companies to start investing with the cash piles they were sitting on. He would still be going round major cities and find out what holds up investments. The markets, which were hardly enthused by the Budget, as well as corporates and foreign investors would await what more the finance minister intends to do to strengthen the business and investment climate in his pending announcements in Lok Sabha.

Even more worrisome for the government is the current account deficit, on an unsustainable course, and likely to exceed 4.5 per cent of GDP in 2012-2013, requiring large foreign inflows and increasing external dependence. India will have to give greater attention to exports in order to reverse the present negative growth trends and keep trade deficit within reasonable limits. (IPA)
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