Fiscal discipline key for economic growth - Rajan

By Manoj Kumar and Himank Sharma

NEW DELHI/MUMBAI (Reuters) - Reserve Bank of India Governor Raghuram Rajan on Tuesday reiterated his call for fiscal discipline, saying it is essential for India to achieve sustainable economic growth.

Although the comments were part of a broader speech on public sector banks, they come as India's newly elected government led by Narendra Modi is set to face its first credibility test with markets when it delivers a budget by July.

That budget will need to convince investors that India can realistically contain its fiscal deficit to avert a ratings downgrade from credit agencies and maintain the confidence of foreign investors.

Rajan repeated his call while noting that India would not always be able to rely on banks to buy a large portion of its government debt as it usually does. Banks, in turn, raise the funds needed to buy the bonds by attracting deposits from retail investors.

"(Bank) deposits will not continue to be cheap, while the government cannot continue to pre-empt financing at the scale it has in the past if we are to have a modern entrepreneurial economy," Rajan said at an event in the country's capital organised by India's anti-trust regulator.

"This is yet another reason why fiscal discipline will be central to sustainable growth going forward," he said.

As part of his speech, Rajan called for a discussion about reforms in public sector banks, in line with a report from an external panel convened by the RBI calling on the government to cut its stakes in state banks to below 50 percent.

Rajan suggested the need for India to offer more specialised banking licences that would result in smaller banks offering niche services. The RBI on April granted two new commercial banking licences, its first new ones in 10 years.

(Reporting by Manoj Kumar and Himank Sharma; Editing by Rafael Nam and Alison Williams)