The govt and RBI suffer from trust deficit

There appears to be less transparency in the government and the Reserve Bank of India (RBI) lately, when it comes to letting the people know about the health of the economy. For example, when the RBI cuts the economic growth forecast by a whopping 80 basis points and still wants to make one believe that the fiscal deficit will remain at the same level as was projected in the Budget (3.3%), it is a little difficult to digest.

It is now a given that the government will have to rework its fiscal deficit arithmetic simply because its original calculation was based on an estimated nominal gross domestic product (GDP) growth of 11% for 2019-20.

Nominal GDP is a measure of the economy that has not been adjusted for inflation. At present, however, the nominal growth of the economy is at 8% and not 11%, implying that the government will have to borrow more debt to finance the same amount of expenditure that it had budgeted for FY20 because of a corresponding slowdown in tax and non-tax revenues. This would automatically result in a larger fiscal deficit.

This will also lead to a rise in the government’s debt and increase the debt-to-GDP ratio. A slowdown in revenues will make debt servicing difficult because there will be no reduction in the net interest payout on the sovereign debt. So, Governor Shaktikanta Das’ remark that he firmly believes in the government’s ability to keep a lid on the budgeted fiscal deficit is neither factually correct nor economically sound. For a layman, his words may be the gospel truth but markets reflected the trust deficit. Indian markets witnessed their biggest loss of the week on Friday despite the RBI monetary policy handing out 25 basis points cut.

The 30-share BSE Sensex fell 1.14% and the Nifty was down 1.23%. Yields on the benchmark 10-year G-Sec bonds remained elevated at 6.69%. In fact, the yields on the 10-year bonds have risen significantly from a low of 6.33% in July, reflecting investors’ concerns as they seek clarity on fiscal math. The government’s Rs 1.45 lakh crore revenue gap after the corporate tax cut has produced palpable anxiety in the market in the wake of its plans to stick to its gross borrowing targets.

How will revenue gap be filled?

Neither the government nor the RBI has come clean on it so far. And, that is the reason domestic equities have given up half of their gains since the corporate tax cut sent them to a high last month. RBI has given a 135 basis points relief in the interest rates since February this year.

The government has pumped in Rs 70,000 crore to capitalise banks, Rs 1.45 lakh crore in corporation tax cut other than giving relief to foreign investors. The government’s loan ‘mela’ to ameliorate the woes of consumers and small businesses is going on. Still, there is no impact on stock, bond and money markets that reflect the general sentiment about the economy’s well being.

The problem lies somewhere else

The economic growth is at a 6-year low and the near to medium-term economic outlook is fraught with risks arising out of domestic and foreign blows. The governor has admitted that the 5% growth in the April-June quarter is much bleaker than what RBI expected. Still, there is not much concern about the fiscal deficit. Investors across the countries have expressed their concerns on uncertainties prevailing in India and now, there is an added worry about lack of transparency.

The Governor’s comments on the health of Indian banks, at a time when they are facing financial stability risk, too has left the stakeholders out of the water. In less than two years, India has seen its second-largest public sector lender Punjab National Bank saddled with an over Rs 13,000 crore scam. Subsequently, the leading infrastructure finance company IL&FS defaulted on payments to lenders before the Punjab and Maharashtra Bank fraud came out. Against this background, the governor’s comment that the Indian banking system was healthy and stable, leaves a feeling of unease among the masses looking for tighter norms.

Steep cut in GDP projections

The RBI has got laurels this time for being realistic on its economic growth projections. It revised the economic growth projections to 6.1% on Friday, sharply down from its August estimates of 6.9%. This is the steepest cut in seven years. The last time it made a downward revision of a similar magnitude was in 2012-13, when weighed down by the global financial crisis, growth fell to a 10-year low of 4.5%.

It is expected that the central bank makes equally real projections of revenue, expenditure and deficit targets. Or, at least indicate to the government that for the sake of stability in the economy, the markets and in the minds of stakeholders, it needs to come clean on the numbers.

When the Centre said last week that its October-March borrowing plan stayed on course and did not intend to exceed Rs 2.68 lakh crore, it sent a strong signal that its deficit and revenue generation targets were in tandem. However, if the latest Goods and Services Tax revenues are any indication, it can upset India’s fiscal math even if direct taxes grow as expected.

At Rs 91,916 crore, the September collection is the lowest in 19 months. It has declined by 2.67% in comparison to the same month in 2018.