Is fiscal deficit getting out of control?
In her Budget 2020 speech, Nirmala Sitharaman decided to expand the fiscal deficit by 50 bps for fiscal years 2020 and 2021. Effectively, the fiscal deficit target for 2019-20 was raised from 3.3% to 3.8% while the fiscal deficit target for 2020-21 was raised from 3% to 3.5%. Interestingly, the N K Singh Commission had provided an escape clause that in some extreme circumstances, the government could choose to expand the fiscal deficit up to 50 bps above the FRBM target. But if you go by the numbers published by the Controller General of Accounts (CGA), the fiscal deficit for the first 10 months of the current fiscal have already touched 128% of the revised fiscal deficit target. That really begs the question; is fiscal deficit getting out of control?
Fiscal deficit numbers are actually quite intimidating
Fiscal Deficit refers to the difference between the government’s total revenue and total expenditure in a financial year. Since the government borrows from the market to bridge this gap, this also indicates the total borrowings by the government in a particular year. While a nominal fiscal deficit is normal for a developing economy, it becomes a worry when it shoots up beyond a threshold, which is open to interpretations. We will come back to the implications of higher fiscal deficit later. For now, let us look at the raw numbers.
India’s fiscal deficit for the April-January period touched Rs985,000cr ($138 billion). This is nearly 128% higher than the revised fiscal deficit Rs767,000Cr for the fiscal year 2019-20. Remember, this is the revised fiscal deficit target of 3.8% that we are talking about and not the original fiscal deficit target of 3.3%. In the first 10 months of the fiscal year, the total expenditure has been to the tune of Rs22,68,000cr while the receipts have only been to the tune of Rs12,83,000cr. That is largely due to tepid net tax receipts of just Rs9,98,000cr and weak divestment collections. Out of this fiscal deficit of Rs985,000cr nearly 70% is accounted for by interest and subsidies. Even assuming that India does not add on to its fiscal deficit in February and March, we may still close the year with a fiscal deficit of 4.87%. That is pretty close to what the former finance secretary, S C Garg had hinted at and that is a major challenge for the government at this point of time.
Can India still achieve fiscal deficit of 3.8% this fiscal?
To end this financial year with fiscal deficit of 3.8%, India will require a revenue boost of at least Rs2,25,000cr assuming that expenditure control will keep the total fiscal deficit at current levels. How can this revenue boost of Rs225,000cr come in? AGR dues from telecom companies could add around Rs30,000cr at best to the coffers of the government. Air India divestment is already put off to next year so any windfall on this front looks unlikely. The government may push a lot of PSU companies to distribute generous dividends ahead of the shift in taxation of dividends from April. That would, at best, add another Rs20,000cr to the coffers of the government. Any further transfers from the RBI looks unlikely for now! Government is betting heavily on the Vivaad se Vishwas scheme in March this year. As of now, it surely sounds like a tough ask.
Why fiscal deficit cannot be allowed to cross 3.8%
One of the reasons rating agencies have kept India’s sovereign rating at BBB is due to its focus on FRBM adherence. That is the goodwill India cannot fritter away. India must realize that any downgrade at this stage would reduce sovereign rating to “Junk” status with its own concomitant problems. The second challenge is with cost of debt. A high fiscal deficit would mean pressure on borrowings and that results in sticky yields. Apart from crowding out private sector borrowers, it will also prevent yields from falling and hence lower rates to be transmitted. How India manages this tough fiscal deficit puzzle remains to be seen.