The problem with Pranab Mukherjee’s Budget speech lay not so much in what he said but in what he did not say. The markets expected him to seize the opportunity occasioned by the government’s decisive election win to lay down its policy agenda for the next five years. But Mukherjee did nothing of the sort, behaving instead like a finance minister haunted by the emaciated spectre of what remains of the Left. In a speech notably devoid of vision, he said nothing about reform, nothing about encouraging foreign investment, nothing about getting the fiscal deficit back to a respectable number and very little about disinvestment. Little wonder the markets were disappointed.
Manas Chakravarty, Consulting editor, Mint
Nevertheless, one of the things the markets wanted was higher spending, something that the finance minister has definitely delivered. The fiscal deficit has been targeted at 6.8% of the gross domestic product (GDP), compared with 6% in the FY09 revised estimates. Total expenditure is estimated to be 7% more than in the interim budget, or 13% more than the FY09 revised estimates. Plan expenditure is up 15% compared with last year. Budgeted capital expenditure is up a good 26.8%, although part of that is capital expenditure on defence. If we exclude that, capital expenditure (both Plan and non-Plan) is higher by 21.7%. That’s a big improvement from the contraction in capital expenditure we had in FY09 and it should be a positive for capital goods companies. The slowdown in the economy has been primarily the result of lower investment demand and the private sector can hardly be expected to go in for capital expenditure given the substantial excess capacity that exists globally. So it was up to the government to help out and it has done so in ample measure.
Revenue expenditure is budgeted to rise by 11.7% and this will add to consumption demand. The substantially larger outlay for the National Rural Employment Guarantee Scheme will, in particular, boost rural demand. In short, the government is continuing with its policy of providing a fiscal boost to the economy to tide over the slowdown, despite the rise in the fiscal deficit.
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On the receipts side, the impact of the slowdown is clearly visible. In FY09, tax revenues were up a mere 6%. But in FY10, the increase in tax revenues has been pegged at just 2%.
That raises the question of what kind of growth is expected. Interestingly, the estimate of nominal growth has actually been revised down from 10.97% in the interim budget to 10.05%. Given an average inflation rate of around 3%, real GDP growth is expected to be around 7% in FY10. In FY09, while GDP growth was 6.7%, the inflation rate was much higher and, therefore, tax receipts were more buoyant.
The big question, of course, is whether the rise in fiscal deficit will push up interest rates. The net borrowing number now stands at Rs3.98 trillion, compared with Rs3.08 trillion in the interim budget and Rs2.62 trillion in FY09. The bond markets were expecting a much lower number, which is why yields went up immediately after the Budget. At present, though, there’s still plenty of liquidity in the market and financing the deficit should not be difficult. If needed, the Reserve Bank of India can always go in for open market operations to inject liquidity. In fact, banks have been reducing both deposit and lending rates recently. But it’s when credit starts picking up that the pressure on interest rates will increase. As mentioned earlier, however, the nominal GDP growth target has been revised downwards, which seems to indicate that the government does not see credit growth going up by much this year. Keeping the fiscal deficit high is, therefore, a gamble they have taken.
If growth is higher, it could lead to higher tax receipts. It’s also likely that proceeds from disinvestments will lead to more revenues, thus reducing the deficit. And the government has said that it will be in a position to lay down a road map for reducing the deficit after the Thirteenth Finance Commission submits its recommendations in October. In sum, the disappointment is the result of the very high, some would say unrealistic, hopes placed on the Budget. What this also means is that the door is now open for positive surprises.
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