>INDIA BUDGET PREVIEW 2012: A year of mild consolidation

■ The FY12/13 Union Budget, to be presented on 16th March, comes at a time when economic growth has slowed and inflation, while declining, is facing headwind from a renewed rise in global commodity prices. Additionally, with the FY11/12 fiscal outturn likely to exceed the budgeted target by close to 1% of GDP, there is considerable pressure to get back on the path of fiscal consolidation.


■ Unfortunately, building on the slippages of FY11/12, it is difficult to see much scope for substantial fiscal consolidation in FY12/13. The expenditure side of the budget will likely remain sticky owing to welfare programs such as NREGA and rising subsidy bill on account of food, fertilizer and oil. The revenue side of the budget is likely to be weak despite the slated implementation of the Direct Tax Code, given likely persistence of weak growth in the next few quarters. To support the revenue base, excise duties could be raised on certain items while the services tax net could be broadened, but this could affect economic growth adversely on the margin. We don’t expect major progress toward the implementation of the Goods and
Services Tax (GST), due to opposition from a few states.


■ We think that the government will factor in INR250-300bn proceeds from disinvestment, with an intention of bringing fiscal deficit down to slightly below 5% GDP in FY12/13, from a likely 5¼% of GDP outturn in FY11/12 (as against the budget estimate of 4.6% of GDP). Consistent with past trend, the fiscal deficit will be financed primarily through sizable market borrowings, which will continue to weigh on bond market sentiments.



Focus on fiscal consolidation
The FY12/13 Union Budget is scheduled to be presented on 16th March. Most stakeholders would want to see a strong commitment from the government to return to the path of fiscal consolidation, after having likely breached the current fiscal year’s target by a wide margin. The RBI has repeatedly underscored the importance of fiscal consolidation in making monetary policy transmission more effective; a budget that reverts to fiscal consolidation would give the central bank some flexibility in its monetary policy actions.


Apart from monetary policy considerations, fiscal consolidation is also necessary to prevent crowding out of private investment and reduce the current account deficit. Running high twin deficits not only exposes the economy to macro imbalances but also makes it vulnerable to any possible external shocks. Fiscal consolidation is an imperative to achieve a stable noninflationary rate of growth in the coming years.


We particularly look forward to the government’s plan of action with respect to two key tax reform initiatives—the Direct Tax Code (DTC) and the Goods and Services Tax (GST). The third, equally important area, but perhaps with less suspense, is expenditure management related to various subsidy programs including petroleum, fertilizer and food. There will be some movement toward cash transfers over broad-based price controls, which will be welcome but substantively far from best practice.


Could the government deliver yet another populist budget keeping its electoral considerations in mind? We are cautiously optimistic that this is not going to be a year of fiscal expansion, given that state elections will be behind and the fiscal’s role in fueling inflation is being recognized in Delhi. Of course, there is a risk that like last year, the government would announce an optimistic fiscal deficit target, allowing the RBI to embark on its rate cutting cycle, only to recognize by the middle of the year that the fiscal targets are unlikely to be met. But generally speaking, we expect the FY12/13 budget to aim for less than 5% of GDP in central government deficit. This would constitute about a ½% of GDP improvement in the fiscal position over the previous year.


To read full report: BUDGET PREVIEW
RISH TRADER