Lower govt debt by selling assets: Ajay Shah
I think the fiscal situation is really dire, even after you take into account the gains owing to reduced prices of crude oil. After the general election, the eight big things that need to be done are:
• Move properly on the goods and service tax (GST).
• Set up a debt management office, so that fiscal difficulties don’t spill over into fears of what monetary policy or banking regulation will do. This will help achieve greater professionalism and technical competence in investment banking.
• Put fertilizer, food and petroleum products on full market prices, with a “voucher” system for BPL (below poverty line) families to buy (say) 10 litres of kerosene a month.
• Show a game plan for fiscal consolidation to bring confidence into domestic and foreign investors.
• Continue to reform income tax, driving down tax rates to enlarge the base, and heading for rates like 20% for individuals and 10% for corporations.
• Continue to reform all taxation, and improve administration by scaling up to a full-fledged system covering income tax and GST.
• Enact a new Fiscal Responsibility and Budget Management Act, based on this new environment.
• And ring down the debt/gross domestic product (GDP) ratio by 10-20 percentage points through sale of shares, departments, land, among other things.
Ajay Shah is an economist.
Govt should curb fiscal profligacy: Omkar Goswami
The government and the Reserve Bank of India (RBI) should do everything possible to tackle the growing fiscal deficit.
The central bank has been doing open market operations and buying bonds from the market and it is also forcing primary dealers to take more bonds on to their books. RBI is also transferring the bonds floated under the Market Stabilization Scheme (MSS) to the government account. But even these are not enough.
The central bank can certainly cut its repo and reverse repo rates by 100 basis points each but at this point there is no justification in cutting the cash reserve ratio (CRR) as there is ample liquidity in the system (one basis point is one- hundredth of a percentage point. CRR is the proportion of deposits that banks are required to keep with RBI.)
The government will have to find ways to curb its fiscal profligacy. If it does not do so, there will be tremendous upward pressure on interest rates. The rates will go up as the government borrowing will crowd out the private borrowers from the market.
In absolute term, the government has never borrowed as much as it is planning to do next year. This will cripple the monetary policy and take away whatever play RBI has on the monetary turf.
Omkar Goswami is an economist and chairman, CERG Advisory Pvt. Ltd.
Disinvestment could partly fund fiscal deficit: Sonal Varma
The sharp increase in the Union government’s borrowings in FY2010 is a cause for concern. According to our estimates, the total demand for government paper from banks, insurance and pension funds is likely to be Rs2.5-2.6 trillion in 2010 compared with the government’s net market borrowing (or supply) of Rs3.1 trillion, thereby leading to an excess supply of government paper.
Moreover, the borrowing target of Rs3.1 trillion does not take into account the additional fiscal slippage that is likely on account of lower tax collections and higher planned expenditure to stimulate the economy. State governments’ market borrowings are over and above this.
As such, we believe that policymakers will have to look at other options to accommodate the increased government borrowing requirement.
First, at a time when banks are wary of taking additional interest rate risk on to their balance sheets, RBI may have to fill in the gap by expanding its own balance sheet through deficit financing.
Monetizing the fiscal deficit is currently prohibited by the Fiscal Responsibility and Budget Management (FRBM) Act, but given the exceptional circumstances, Parliamentary approval to allow deficit financing may be necessary. Even if this option is not exercised, the provision itself would instil more confidence among market participants.
Second, in the secondary market, RBI should continue to conduct open market operations though the buy back of government securities. These buy backs should be of longer-dated securities to reduce the duration risk for banks, as they already hold a lot of longer-dated securities.
Third, converting market stabilization scheme bonds into regular government borrowing, which is being done.
Fourth, the government could finance some proportion of its fiscal deficit through short-term treasury bills, rather than entirely resorting to borrowing through longer-dated bonds.
Fifth, the government could announce its disinvestment plans to partly fund the higher fiscal deficit, but this may require some stabilization in the equity markets first.
Finally, the uncertainty surrounding the timing and size of the large borrowing has kept the markets on tenterhooks and resulted in higher yields. Greater transparency on how to finance this excess borrowing is critical to ensuring smooth financing of the large borrowings and stabilizing government bond yields.
Sonal Varma is India economist, Nomura Holdings Inc.
Roll back stimulus in the second half of 2010: Jahangir Aziz
The borrowing for fiscal 2009 and the next fiscal will be large. But this should not be surprising as across the world government consumption and investment is being called upon to replace private spending to support growth. Given this, we should also see a shift from private credit to government credit. The banking system is quite capable of funding this.
Banks’ holding of government securities has crossed the 24% statutory requirement and has been showing signs of continuing to grow as private sector credit growth ebbs.
As the economy is likely to slow down further in the coming quarters, private credit demand will wane and the pressure on bank liquidity from the large government bond issuance will be mitigated.
The problem is not about availability of funds—it is about the duration at which these funds are being used. The rise in government bond yield has been at the long end as borrowing has been largely concentrated at the 10 year and above range. This has steepened the yield curve, which could sharpen further if RBI cuts policy rates as is widely anticipated. However, the curve should flatten somewhat in the coming quarters and yields should soften, as private sector credit growth slackens further.
The bigger concern is with the second half of FY2010. If the economy begins to recover, private credit will pick up sharply in this period. If the government is not careful, it might repeat what happened this year by going to the market with a massive borrowing plan in the second half. With both the government and the private sector raising their demand for funds, yields are likely to rise.
To avoid a repeat of what happened this quarter, the government needs to be ready to roll back the stimulus it is likely to inject in the full-year budget after the elections in the second half of 2010. After all, a spike in private credit growth would imply that the economy is recovering and lessen the need for continued fiscal stimulus by that much.
Monetization is a path that the government should not go down unless pushed to the wall. Ending direct monetization has been an achievement in the last few years and needs to be safeguarded.
One option that should be explored in earnest is divestment. This has not been used in the last few years.
However, bringing the asset side of the government’s balance sheet into credible consideration will alleviate much of the concern associated with the rising deficit and public debt. There is no reason to undertake the divestment when the market has not recovered. However, the government needs to commit to a credible divestment strategy that is automatically triggered once the market recovers.
There are several ways of committing to such a strategy, the only thing standing in its way is political consensus. The economic realities of 2010 could force such a consensus.
Jahangir Aziz is executive director, JPMorgan Chase & Co.