Substantial FII inflows are anticipated, if the government’s proactive stance on reforms continues. However, these measures are insufficient to significantly reduce fiscal deficit. A FY13 fiscal deficit of 5.8% of GDP has been forecast, as there is no magic wand to reign in government expenditure, according to Standard Chartered Bank
Although the government is keen on gaining mileage with the public and UPA (United Progressive Alliance) coalition partners through reforms in policy-making, these measures would have little impact on the growing fiscal deficit, which is a huge problem the economy faces. The fiscal health of the government is in a fragile state. Recent government efforts to contain the fiscal deficit are commendable, points out Standard Chartered Bank. Specifically, it announced measures to contain fiscal slippage: increase in fuel prices and divestment plans. But this will not be enough. Here are the grim fiscal numbers.
On 13 September 2012, the government announced revisions to administered fuel product prices. It is expected that the increases in diesel and cooking gas prices would reduce the FY13 fiscal deficit by only 0.1% of GDP, after adjusting for the reduction in excise duty on petrol.
Having made no divestments in the first five months of FY13, the government announced the divestment of its stake in one company (Rs75 billion), and approved the sales of four others in principle (Rs150 billion). If the government approves the offer (Rs200 billion) from a private sector company to buy direct stakes in two other public sector entities, then it could exceed its initial target of Rs300 billion of divestment proceeds. These share sales could result in substantial FII (foreign institutional investor) inflows if the government’s proactive stance on reforms continues.
However, these measures are insufficient to significantly reduce fiscal slippage. It was not expected that the government would meet its FY13 fiscal deficit target of 5.1% of GDP, and a combination of factors will lead to significant slippage. “We forecast a FY13 fiscal deficit of 5.8% of GDP, higher than our previous estimate of 5.3%”, Standard Chartered Bank said.
Net Tax Collection
Indian corporates and households claim tax refunds for taxes deducted at source. The government makes such refunds on a regular basis; it is therefore important to consider net direct tax collection, rather than gross direct tax collection, when assessing the fiscal deficit. If tax refunds accelerate in the next few months (India refunded Rs980 billion in FY12 and Rs710 billion in FY11), this could dampen net collection. Gross tax collection, especially of corporate tax has actually contracted by 1.5% year-on-year and so the risk of slippage in net direct tax collection is quite likely. The Finance Ministry is targeting an additional Rs300 billion in direct tax revenues by wielding the stick, slippage of 0.1%-0.15% of GDP in net direct tax collection – and thus overall tax collection – is probable, finds Standard Chartered Bank.
Proceeds from spectrum auctions in the telecom sector will be much lower than expected. The government has budgeted receipts of Rs400 billion (0.4% of GDP) from telecom spectrum auctions. However, as the sector is currently going through a rough patch and the government recently revised guidelines to allow staggered payments over the next 10 years, a slippage of 0.2% of GDP from the targeted level of spectrum auction proceeds is highly likely.
The government is unlikely to meet its ambitious target of capping the subsidy burden (India subsidizes food, fertiliser and fuel products) at below 2% of GDP in FY13 (2.4% of GDP in FY12), despite the increase in fuel product prices. The subsidy bill could easily reach 2.5% of GDP in FY13, much higher than the budgeted 1.9%. The fuel subsidy bill may exceed the budgeted amount by 0.4% of GDP. The food subsidy bill may increase by 0.2% of GDP thanks to increased minimum support prices for several crops.
Expenditure grew by 16% in April-July 2012 on higher revenue expenditure, against a budgeted 13% increase in overall expenditure in FY13. Although the government has been trying to cut expenditure, this has had little effect because almost 60% of total government expenditure if fixed in nature—21% of total expenditure goes to interest payments, 13% to subsidies, 13% to defence and 4% to pensions.
In May 2012 the government announced plans to cut expenditure by Rs70 billion. The impact is not visible. Even if the government achieved these reductions, as well as lower defence spending, it is believed that the expenditure would still remain high. The defence minister has announced that steps will be taken to curb unnecessary expenditure growth. Assuming 10% growth (in line with the average of the past two years) rather than the budgeted 13%, the government could save 0.05% of GDP.
The lack of past expenditure reforms and slower tax revenue generation, amid weaker domestic growth, will lead to another year of high fiscal deficit, says Standard Chartered Bank. The FY12 fiscal deficit was 5.9% and so a deficit of 5.8% in FY13 would reflect the lack of progress. An even wider fiscal deficit cannot be ruled out, remarks Standard Chartered Bank.
This implies that India’s weak fiscal health may come under further scrutiny, especially by the rating agencies. Even if the government is able to offset some fiscal slippage by divesting substantial shares in public-sector companies, the quality of its commitment to fiscal consolidation may still be questioned, concludes Standard Chartered Bank.