- Sankar Chakraborti
Budget 2020 India: As India records one of the slowest expansion rates in its recent economic history, global institutions have been forced to reconsider the India story. Recently, Moody's has changed India's outlook to negative from stable over concerns regarding slowing economic growth, rising public debt along with chances of fiscal indiscipline. Much of these concerns are connected to the fact that the Government is trying to compensate for the private sector's inability to drive growth. Subsequently, the current financial year mostly focused on the Government's fiscal imbalances and revenue growth.
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Since this topic will likely remain important for FY21 as well, it is perhaps wise to assess the current state of fiscal affairs in order to have a sense of prescience. With this in the background, we estimate the fiscal deficit for FY20 to be recorded at 3.5%, despite the visible slowdown and a massive rise in Government expenditure commitments. The deficit will, therefore, be around 0.2% higher than the estimate of 3.3% envisaged by the Budget document. Our assumptions are based on a nominal growth estimate of 11% for the current financial year and the size of GDP pegged at $2.96 trillion by the end of the fiscal. These numbers are lower than the budget estimated growth of 14.3%, the estimated GDP size of $3.01 trillion and a fiscal deficit of 3.3%.
One of the primary reasons behind this debacle is the shortfall in tax revenue as a consequence of the slowdown. As per Comptroller General of Accounts (CGA) estimates, the Government's tax revenue has been Rs. 6.82 lakh crore as on October FY20 as compared to Rs. 6.63 lakh crore, same time last year. Accordingly, the growth recorded is just 2.9% YTD, which is significantly lower than the full-year estimate of 14.9%.
Public Sector Enterprises to the Rescue
Compensating, however, non -tax revenue has been recorded at Rs. 2.24 lakh crore as compared to Rs. 1.27 lakh crore, same time last year YTD. This translates into a growth of over 75%, in comparison to an estimated growth of 11.2%, as envisaged by the budget document. The roughly Rs. 1 lakh crore that the Government has managed to extract from the source has more or less stabilized the total revenue at Rs. 12.51 lakh crore YTD as compared to Rs. 10.91 lakh crore, same time last year – translating into a growth of 14.7% (13.4% Budget Estimate). Therefore, despite the economic impediments, dividends from public sector undertakings and the RBI have come to the rescue of the economy – becoming the power source in the Government expenditure driven revitalization.
Undoubtedly, these revenue receipts are being channelled by the Government into massive capital and revenue expenditure, as total expenditure rose from Rs. 15.64 lakh crore to Rs. 16.53 lakh crore in FY20 YTD. The recorded growth of 12.9% as compared to the estimated 13.4% is well contained despite expenditure being front-loaded because of lower interest payment obligations. In the current low-interest-rate regime, interest payment obligations came in at Rs. 2.89 lakh crore YTD as compared to Rs. 2.98 lakh crore recorded in the previous year. We, however, believe that this comfort may be short-lived, given the incremental Rs. 1.77 lakh crore of net debt raised, consequently attracting incremental interest obligations in the following quarters. With the commitment for an infrastructure boost, capital expenditure has too gone up by 7.8% as compared to the budget estimate of 6.9% and the aforementioned incremental net debt raised will be the primary financier here.
Expected concerns of budget FY21
Given similar levels of growth foreseen in the fiscal year FY21, we envisage a similar story. While nominal growth may be slightly higher than that of FY20, the economy's animal spirits might not be completely resurrected. As the Government will struggle to meet its tax revenue expectations, non-tax revenue will, therefore, come back to the rescue, chiefly through the loyal Government-owned enterprises as well as the RBI dividends. In order to revitalize household consumption, we believe that the Government might also tinker with the existing direct tax slabs, further impacting its revenue receipts. Also similar levels of debt raising, especially after the RBI's yield management-oriented open market operations-may continue to exert pressure on the Government coffers. Additionally, the economy will underperform its estimates and likely lead to a shortfall of over Rs 37,000 crore of tax revenue, which might not be compensated by the non-tax revenue in the current scheme of things. Subsequently, the fiscal deficit will remain near the 3.5% levels, with the Government likely triggering the FRBM's offset clause in both financial years.
India still a high demand market amongst global investors
When talking about global investor confidence, India remains an attractive destination for cheap money emanating from the developed markets in pursuit of higher yields. Record FII/ FDI Equity into the market is on a net basis much higher than previously anticipated and is expected to continue well in FY21. Nevertheless, the INR continues to weaken against the USD for five weeks now and has reached 71.68 during the second week of January 2020. While the current geopolitical developments (after the US-Iran tension and a not so well accepted US-China trade deal) are unfavourable for the INR, RBI's market interventions are further depreciating the currency. RBI's USD accumulations have been put to good use in making the Indian currency competitive in a bid to incentivizing exporters. Foreign capital, however, continues to flow from abroad, compensating this downfall. The foreign money, in turn, is driven by the start of a quantitative easing of sorts in the US, Japan and the EU. We reckon that the repealing of the long term capital gains tax (LTCG) in FY21 Budget will further add to the global liquidity ultimately translating into capital inflows and boost investor assurance.
Credit demand and empowering MSMEs
Credit demand has been seen suddenly falling through Q3 of this fiscal. Offtake, which was growing in double digits is recorded at 7.6% as on November 2019. Consequently, credit offtake to MSME has also declined substantially to 6.2% as compared to 11.2%, same time last year. Poor offtake primarily pertains to the slowdown in the manufacturing sector due to defaults and risk-averse commercial banks. Nevertheless, the banks are now plush with cash with the deposit rate consistently outperforming credit offtake. Resultantly, the weighted average call money rate reduced to 5.05% during the first week of January 2020 from 5.11% a week earlier. The spread between repo and the call money rate has therefore increased to 10bps with liquidity in the system further ballooning to Rs.2.8 lakh crore during the week ended 12th January. The budget FY21 will, therefore, try to channel some of this incremental liquidity into credit for priority sectors such as MSMEs, apart from instigating banks in lower interest costs for all borrowers. It is reasonable to say that the credit offtake seems to have bottomed out and can only go up from here.
Priorities for the Budget FY21
Taking cues from the ongoing slowdown, we believe that a contracting manufacturing GVA and headline inflation now breaching 5% are signs of severe supply-demand mismatch-pushing India into a vicious cycle of high unemployment and high inflation. Evidently, if the slowdown persists than corporations will be forced to lay off employees, which will, in turn, supplement the increases in the rate of unemployment. Undoubtedly, this is connected to the ongoing production cuts, job losses and inventory build-ups being reported from across the system.
While the Government has taken steps to control this malady and arrest the apparent shift, most of its efforts are concentrated towards the supply side. On the other side, the revelation of the Q1 & Q2 FY20 GDP numbers are however confirming our concerns regarding the ongoing consumption slowdown in India. It is, therefore, the demand side, which needs immediate attention of Budget FY21. We note that if the demand side remains constricted, there is a very high probability of a sticky stagflation spawning in the medium to long term. The Budget FY21 must be cognizant of the build-up of systemic inventories, holding up of fresh private capital expenditure along with a slowing credit demand that has compelled the supply side to take drastic measures. The situation has exacerbated the slowdown and hastens the advent of ill-effects associated with high unemployment and high inflation conditions.
- Sankar Chakraborti is CEO of Acuité Ratings & Research and Independent Board Member of Indian Oil Corporation. Views are the author’s own.