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Business News/ Politics / Policy/  Why there is little room for Jaitley to beat note-ban gloom with budget goodies
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Why there is little room for Jaitley to beat note-ban gloom with budget goodies

Economists urge more infrastructure investment when govt presents budget on 1 February, and maybe even direct cash transfers to boost consumption, a splurge carries the risk of a rating downgrade

Arun Jaitley could scrounge up about Rs2.5 trillion, an ‘insignificant’ amount for the $2 trillion economy that saw 86% of its currency invalidated in Nov and is estimated to face cash shortages through May. Photo: BloombergPremium
Arun Jaitley could scrounge up about Rs2.5 trillion, an ‘insignificant’ amount for the $2 trillion economy that saw 86% of its currency invalidated in Nov and is estimated to face cash shortages through May. Photo: Bloomberg

Mumbai: Three months into a cash ban that has sucked out momentum from one of the world’s fastest-growing economies, Prime Minister Narendra Modi has little room to boost spending.

While economists urge more investment in roads, ports and railways when the government presents its budget on 1 February, and maybe even direct cash transfers to boost consumption, a splurge carries the risk of a rating downgrade. India is rated just one step above junk by S&P Global, Moody’s and Fitch, who cite Asia’s widest budget deficit as a drag on the sovereign rating.

Any erosion in credit quality risks scaring investors who’re already net sellers of Indian bonds and stocks this year, which can push the rupee toward a record low and stoke inflation. Moreover, a downgrade could tarnish Modi’s reputation — already hit by the abrupt demonetisation move — before a slew of state elections starting on 4 February.

“The government has limited avenues available to stimulate the economy," said Neelkanth Mishra, managing director for equity research at Credit Suisse SA in Mumbai. At best finance minister Arun Jaitley could scrounge up about Rs2.5 trillion ($37 billion), an “insignificant" amount for the $2 trillion economy that saw 86% of its currency invalidated in November and is estimated to face cash shortages through May.

A worsening of public finances risks spurring price pressures and deny the inflation-targeting central bank space to lower interest rates, belying economists’ predictions of a cut to 6% from 6.25% this quarter. If the Reserve Bank of India holds, the yield on the 10-year sovereign bond will rise to 7% in 2017 from about 6.5% and worsen outflows, said Arvind Chari, head of fixed income and alternatives at Mumbai-based brokerage Quantum Advisors Pvt.

“This budget is thus critical, for it would decide the near term direction of the bond markets, interest rates and the currency," he said. “We do not expect any significant reforms given upcoming elections in key states, only populist measures are expected."

For the new year starting 1 April, Jaitley will ease the government’s goal to shrink the budget deficit to 3% of GDP and will target 3.3% instead, according to the median estimate in a Bloomberg survey of economists published this month. He will meet the current year’s 3.5% target, buoyed by tax collections as the cash ban pushes people out of India’s vast shadow economy and into the formal banking sector.

The cash squeeze will slow gross domestic product growth to 6.8% in the current year from 7.6% the previous year, the Bloomberg survey shows.

Another complication for Jaitley would be uncertainty surrounding the rollout of a national sales tax, due by September. Analysts expect the introduction to be messy in the near term with implementation costs likely to borne by India’s private sector, which could drag down growth. Modi may need to spend about 0.3% of GDP to compensate states for revenue losses, HSBC Holdings Plc estimates.

There’s also talk of a universal basic income, which could win Modi voters as well as help ease the strife of the cash ban. This would however be immensely expensive for the world’s second-most populous country unless it replaces a plethora of existing poverty alleviation programs, said Pranjul Bhandari, an economist at HSBC. Modi may opt to kick off a similar offering in a few districts first, she said.

For instance, about 30% of India’s $300 billion annual expenditure goes toward servicing its debt, and 15% on defence purchases. Another 15% — some $45 billion — is spent on subsidized food and fuel for the poor, many of whom live on less than $2 a day. Transferring $15 into each Indian’s bank account every month will cost the government $235 billion.

“The budget has two immediate tasks cut out: assuage the shock received by private consumption from demonetization, and bolster faltering investment demand," analysts at Crisil Ltd., the local unit of S&P, said in a report this week. Can the government do it and meet its existing fiscal targets? “Short of a miracle, no." Bloomberg

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Published: 27 Jan 2017, 07:35 AM IST
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