A challenging fiscal situation with scanty growth in tax collections will limit FM Sitharaman’s ability to provide a demand stimulus in the second NDA govt’s budget
As fiscal stimulus is unlikely, increased reliance on monetary policy to support growth is the only option
NEW DELHI :
Amid a protracted slowdown, with the economy decelerating to a five-year low of 5.8% in the March quarter, finance minister Nirmala Sitharaman will be keen to take measures to boost demand in order to revive the economy. However, a challenging fiscal situation with scanty growth in tax collections will limit her ability to provide a demand stimulus.
The slowdown in economic activity is evident from most indicators. Private consumption moderated to 7.2% in the March quarter from 8.1% in the December quarter. Factory output entered negative territory in March after a gap of 21 months, contracting 0.1%, though it recovered to grow at 3.4% in April. Passenger vehicle sales posted the steepest drop in nearly 18 years in May amid weak demand and a liquidity crunch faced by non-bank vehicle financiers. Sales fell 20.6% in May to 239,347 vehicles from a year earlier, according to the Society of Indian Automobile Manufacturers.
Rural demand has been a weak point for the economy due to the sharp drop in farm prices. Hindustan Unilever Ltd, considered the bellwether for India’s fast-moving consumer goods (FMCG) market, saw its volume growth drop to 7% in the March quarter against double-digit growth in several quarters.
The Reserve Bank of India (RBI) cut policy rates for the third consecutive time by 25 basis points earlier this month and changed its stance to accommodative from neutral, signalling more rate cuts in store to revive growth and support consumer demand.
“Growth impulses have weakened significantly as reflected in a further widening of the output gap compared to the April 2019 policy. A sharp slowdown in investment activity along with a continuing moderation in private consumption growth is a matter of concern," the monetary policy committee (MPC) of RBI said.
D.K. Srivastava, chief policy adviser at EY India said one option before the new government to stimulate the economy is to front-load the expenditures of FY20. “A coordinated fiscal and monetary stimulus would help in reversing the ongoing demand slowdown. One likely focus area for policy is anticipated to be the rural and agricultural sector, given the need for providing relief in view of the continuing distress of this sector, which is recognized across the board by different political parties," he added.
Tanvee Gupta Jain, economist at UBS said in a research report released in June that since a fiscal stimulus is unlikely in the near term, increased reliance on monetary policy to support growth as inflation remains benign is a more likely option. “We expect the MPC to cut the repo rate a further 25bps in the rest of FY20, bringing cumulative easing to 100bps in this cycle," she added.
However, poor transmission of repo rate cuts has been a cause of concern. Briefing reporters, RBI governor Shaktikanta Das said the cumulative 75bps rate cut this calendar year will translate into higher and faster transmission, helping boost consumer demand. “Till now, the transmission has been of 21 basis points so far as fresh rupee loans are concerned. The (monetary) transmission will find its impact on individual consumer loans, consumer durables loans, two-wheeler loans and there is a good chance of interest rates falling in those sectors for new loans," he added.
The only good news is the report of the Bimal Jalan committee which is expected to recommend transfer of a portion of RBI’s reserves to the government, though the extent and timing of the transfer remains contentious. The committee, which has sought extensions, is likely to finalize its report after meeting in July. While the government is in favour of a one-time transfer, most members support a staggered payment by RBI.
Jain said apart from providing fiscal support to retire public debt, the transfers could be used to recapitalize public sector banks and position them well to drive the credit cycle ahead. “A staggered dividend of around $10 billion per year, rather than a one-shot $30 billion, is our base case," she added.