Modi's aim to contain fiscal deficit: Two options exist, both are painful

Prime Minister Narendra Modi wanted minimum slippage from the fiscal deficit target of 3.2 per cent of gross domestic product (GDP) for 2017-18, sources said.  

“The Prime Minister and his office are keen that everything is done to ensure that the fiscal deficit target is as close to the target as possible. There are only two options that policymakers in North Block can exercise. Either spending is cut drastically or deferred until next year, or the public sector undertakings (PSUs) are told to spend more. Either option is painful,” an official said.

The Centre in November ran up a fiscal deficit of 112 per cent of the target set out in the Budget for 2017-18. This is the highest deviation from the Budget Estimate for the fiscal deficit in the first eight of a financial year since 2008-09, the year of the global financial crisis.

The government has opted for borrowing Rs 500 billion in excess of the Rs 5.80 trillion Budget Estimate. The additional borrowing could take the fiscal deficit to 3.54 per cent of GDP.

Cutting or delaying payments will hurt capital expenditure (capex) at a time public spending is driving economic activity. PSUs have been told to spend Rs 250 billion more than what has been budgeted for this year, taking the total capex by Centre-and state-owned companies to Rs 4.1 trillion in 2017-18.

PSUs are also buying back shares to help with disinvestment targets and are expected to make a full dividend payout. The Centre may ask them to pay special dividends. Separately, the finance ministry is asking the Reserve Bank of India (RBI) to pay Rs 130 billion in the additional dividend over the Rs 300 billion that has already been paid for this year.

The combined target from dividends by state-owned banks and companies and the RBI stands at around Rs 1.4 trillion.

The Centre is staring at a tax revenue shortfall of Rs 400-500 billion in 2017-18, and it is also under pressure over some non-tax revenue items. While direct tax collection may see a shortfall of Rs 200 billion due to a corporate slowdown, a Rs 250-300 billion shortfall is expected in indirect tax revenue due to the goods and services tax (GST). “Proceeds from the GST and direct tax revenues are not something the government controls,” the official said.

“In the face of an expected shortfall from tax items, the only way the fiscal deficit target can be met is by cutting spending and not going in for the additional borrowing,” said Madan Sabnavis, chief economist with CARE Ratings.

In a note to clients last month, Aditi Nayar, principal economist with Icra, said for the fiscal deficit target to be met, capital outlay and net lending would have to contract by 15.4 per cent in December-January, and revenue expenditure would have to stagnate, year-on-year.

“The pace of growth of direct tax collections would need to improve to 21 per cent in the remaining four months of this financial year from 14 per cent in April-November to meet the budget target, which appears unlikely even if there is a marked improvement in compliance,” she said.