As February 26, the date for presenting the budget in Parliament, draws closer the challenges before the Finance Minister are many.
Clearly, the fiscal deficit has to come down from the 16 year high of 6.8 percent of the GDP estimated for the current year, to a reasonable level. Add to this the deficit of the state governments, the picture becomes grim with the deficit touching the double digit mark. The high inflation rate which the RBI has lifted to 8.5 % at the end of the current fiscal too has to be brought down—— all this without impacting the growth rate.
The Reserve Bank is keen that time has come for fiscal consolidation after a period of generous stimulus packages which pumped in huge money supply into the economy last year. This indeed helped in pushing the GDP growth to a modest 6.7% against a 9% growth in the previous year. This happened at a time when other countries were facing recession and shrinking economies.
On the one hand there are clear positive indications. According to the figures released by the Central Statistical Organisation (CSO) the Industrial growth in December last year was about 18 percent, after registering 11.7 % growth in November which could mean a growth rate in this sector in the whole year, of about 9 percent. The Exports which suffered the most and kept on falling consistently in the last 13 months have begun picking up since November last. Exports recorded an increase of 9.3 % in December last for the second consecutive month. The Agricultural sector too has begun to look up with prospect of a good Rabi crop. Farm output in the current fiscal will be better than initial estimates as post monsoon rains have been good, raising hopes that food inflation will be controlled soon. Agricultural production, though, is likely to shrink 0.2 this fiscal against 1.6 % last year. After all, 2010 saw the worst monsoon in 37 years.
The current inflation is clearly driven by food inflation. Food price index in January stood at 17.56 % after touching 20 percent in December. Software services exports have hit $50 billion mark and are emerging stronger. This indeed reflects that the economy is on a revival path.
But there is another side to the picture. The huge fiscal deficit and a high inflation rate are a source of worry.
The question now being asked is that in this backdrop is it time to withdraw the stimulus packages? The Chief statistician of India Pronab Sen believes that though the figures are favourable we better wait till the figures of the 3rd and 4th quarter are available by May this year. The CSO figures he says gives a picture about the supply side only. We must also know what is happening on the demand side before taking a final call on the complete fiscal stimulus exit, he argues.
C Rangarajan, Chairman of the Prime Minister’s Economic Advisory Council also feels that India is not in a hurry to roll back economic stimulus measures in one go. “It will be done in a manner that stimulus in the economy continues to persist and at the same time some adjustment is made so far as the deficit is concerned” he said.
The RBI Governor D Subbarao in the monetary policy review on January 29 had said that fiscal situation needs to be corrected for monetary policies to be effective in reigning in inflation. For the RBI, credit rating by agencies is also a concern. This calls for “coordination in the fiscal and monetary exits” the RBI statement said. It recently raised the Cash Reserve Ratio (CRR) for the banks which in effect would reduce the money supply by 36,000 crores in the system. It has thus given a clear signal to the Government to move in the direction of financial consolidation to reduce fiscal deficit as well as the inflation rate. RBI wants a gradual roll back of stimulus.
But the Government can do so only by withdrawing the stimulus packages given in the shape of reduction in interest rates, excise duties, service tax and farm debt waiver, and if this is done it could impact the growth rate which the CSO estimates at 7.2 %, the RBI at 7.5 % and the finance ministry at 7.75 % in the current fiscal. The economy grew at 6.7 % in the last fiscal.
Industry organizations are keen that the stimulus package should not be tinkered with at this stage as it will lead to increase in interest rates affecting investment. It would also lead to increase in government borrowings pushing up the interest rates. They say that despite different sectors showing a recovery, there is already a decline in investment to GDP ratio this year. And unless the industries grow, tax revenues cannot grow.
The other option before the government is to reduce subsidies particularly on fuel by accepting the Kirith Parekh committee report and letting fuel prices be determined by market forces. The government compensated the oil companies by over Rs.71, 000 crores in 2008-09. In the current financial year they have already suffered a loss of over Rs. 40, 000 crores. It is also being suggested that government can go in for disinvestment of PSU’s . All this can bring down the deficit to 5.5 %.
While it is difficult to predict which route the government chooses, it will have to lay a road map for the exit from stimulus policy in the budget. The 1.2 trillion economy has to get back to 9 % growth and beyond, in the next financial year. The next budget has to become the starting point for corrective action. It is indeed a fine line to control prices and promote development. But that is the path we have to tread. There are no soft options.
Source : commodityonline.com