In their commitment to the Fiscal
Responsibility and Budget Management (FRBM) Act, successive governments at the
centre have done a good job at ensuring that the fiscal deficit to GDP ratio is
not just kept in check, but also lowered overtime. As a result, from a level of
4.9% in 2012-13, the centre is now looking at a ratio of 3.5% in 2016-17.
The big question now is: Can the centre pull off another year of meeting
the fiscal deficit-GDP target?
In any other year, the question
would have had a ready answer: Yes. However, based on the developments so far
in 2016-17, it is quite evident that this is not any other year. Three such
developments are critical to determining whether the target can be met.
One, the ratio for the first half of 2016-17 stands at 6.3%. The number
is generally significantly higher for the first half of the year as compared to
the full year target, so this is hardly surprising. However, the number is
slightly higher than the 5.9% ratio during the corresponding period of 2015-16.
This indicates, that the deficit to GDP ratio will have to be lower during the
second half of 2016-17 to compensate for the increase during the first half. It
is not entirely impossible, though, since the year 2014-15 saw a 7.4% deficit
to GDP ratio for the first half of the year, but still ended up at the 4% mark
by end of the year, which was the same as in 2015-16.
Nevertheless, the trends for the
first half, make it slightly harder to achieve the target as envisaged. This is
particularly because the target itself has been 40 basis points lower than that
during 2015-16, when it was at 3.9%.
Two, relatedly, in
assessing how far it is possible to achieve the target, we at Orbis Economics
projected three scenarios for the fiscal deficit ratio: optimistic, pessimistic
and realistic. It turns out, that the target is achievable only in an
optimistic scenario, while a pessimistic scenario, fiscal deficit to GDP ratio
will be at around 4.1%, which is closer to the previous two years’ levels
rather than the 3.5% level envisaged for 2016-17. However, the most likely
is the realistic scenario, as per which, the centre’s fiscal deficit will close the year
at 3.8% of GDP in 2016-17. This is an excess from 3.5% target set for the
year, but is still a small improvement from the previous year, when the number
stood at 3.9%.
Three, the
estimates of both the centre and our own projections are based on GDP
projections as released by the CSO’s advance estimates. This would have worked
out just fine, except for the fact that in all likelihood, the impact of the
demonetisation policy has not been factored in. Once projections for the policy
move are factored in, real GDP growth will turn out lower than the 7% figure expected
otherwise. As a result, even if the fiscal deficit number by itself remains
unchanged, a lower GDP growth will inflate the fiscal deficit-GDP ratio. This, puts
the possibility of achievement of the target in peril.
Even though we will only know the
outcome for certain by the end of May 2017, by when both the final fiscal
deficit and GDP numbers for 2016-17 will have been released, the developments
discussed above raise another question as well:
Will the centre be able to stick to the 3% target set for 2017-18?
The question arises on account of
two reasons:
One, our estimates
indicate that there could be some slip up in fiscal deficit as a proportion of
GDP, as elaborated above. If the ratio in fact comes in at 3.8%, and not 3.5%
as initially envisaged; getting to a level of 3% by 2017-18, is closer to 1
percentage point away than 50bps away. In the recent past, a sharp reduction
like this has not been envisaged in the budget estimates. In keeping with that
perspective, it remains to be seen whether the government will change the trend,
this time around.
Two, there could be an
ongoing hit on the Indian economy on account of the demonetisation drive in
2017-18. While official figures on the estimated hit are not available, a bare
minimum of 1 percentage point hit to economic growth is the consensus among a
range of forecasters. In other words, we are talking a slip in growth to the
whereabouts of 6% over the next year, which will make the 3% figure harder to
achieve.
Based on these facts, it is
reasonable to assume that the centre will revise the fiscal deficit-GDP revised
estimate for 2016-17 and the budget estimates for 2017-18 upwards. In the event
that it does maintain the original targets of 3.5% for 2016-17 and 3% for
2017-18; it would be worthwhile to watch for the fine print for additional
sources of revenue and possible cuts to certain expenditures. The potential, on
the revenue front, one off increases in the revenue kitty and cut backs on
capital spends on the expenditure front need to be highlighted.
More trend analysis on data on
government finances will be published in the next days.
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