FM Jaitley’s Budget 2016 bids for Macro Prudential Stability

As anticipated the FM has leaned towards stability possibly at the cost of some difficult-to-attend growth. This budget may not go down in the annals of Indian budget history’s ‘hall-of-fame’ as its more illustrious peers such as 1991 Manmohan Singh ‘Liberalisation’ budget or Chidambaram’s ‘Dream Budget’ of 1997. But clearly this may be remembered as a budget where the FM decided to stick to the promised road of fiscal consolidation. He may as well have chosen to forego the fiscal consolidation path and pushed for growth. But possibly he believed that in the long run macroeconomic stability and a reputation for fiscal discipline benefits a country more than a few quarters of growth.

In a world on negative interest rate(Eurozone/Japan), burgeoning fiscal deficit(FD)(Oil Producing Nations) and surging sovereign debt(some Latin American and OPEC nations) India may , going forward , prove to the an oasis of relative macro-economic stability. However, in this gambit it is possible that GDP growth may go down to an extent. However one may hope that the stability will make up for it keeping the overall attractiveness intact. Of course like all budgets there is some optimistic expectations and some ‘optical adjustments’, but which budget does’nt.


Fiscal Deficit Math and oodles of Hope

The FM may strictly stick to the original target of fiscal consolidation (3.9% FD in FY16; 3.5 in FY17; 3.0 in FY18) only till FY17. Given the proposal that going forward the FD target may be a range(as opposed to a fixed number) it will be surprising if the FY18 target may be very strictly met.

As far as the FY17 target of FD of 3.5% of nominal GDP is concerned, the current budget assumes a nominal GDP growth of 11%. The FD of FY17 is estimated at Rs 5.33 Trillion (lakh crore). Advance estimates the FY16,currently available, projects a nominal GDP of Rs 135.67 trillion (Previous Budget in Feb 2015 estimated it at Rs 141 trillion ).

In this, there is a distinct element of déjà vu of the previous budget. The current budget per se does not have significant growth drivers. So one may wonder that what can be the reason for FY17 nominal GDP growth to hit 11%, particularly if it has been trending down since FY13 and is currently(FY16) estimated at more than a decade low(FY16:8.6% ;FY15: 10.8% ; FY14:13.3% ; FY13:13.9%). Of course if FY17 nominal GDP is recalibrated downward as has been the case for FY16 (for that matter every single nominal GDP since 2011) then the fiscal deficit target may be a challenge.

More ‘Socialistic’ allocation:

Given the constraints the budget could not have put tremendous thrust of capital investment as well as on social sector. The budget focussed its limited resources to rural sector which was reeling after two years of bad monsoon. The budget proposes to allocate Rs87,765 crore towards rural development. Specifically it pushes for a revival of MNREGA where the allocation is Rs 38,500 crore and a sharp increase in rural road project to Rs19,000 crore. It did not go with the outright populist route of farm loan waivers and increase the burden on the bank. However, it tried to provide a structural solution to agriculture loan default by introducing farm insurance policy.

In fact, to protect the economically backward sections from event risks the budget proposes a household level insurance of INR 1 lakh(0.1 Million). Likewise the budget focusses on extending credit facility to the extent of INR 1.8 trillion in FY17(FY16 1.0 trillion) for small and micro enterprises under its MUDRA scheme. Clearly the implied growth model of this budget is a ‘bubble-up’ growth model as opposed to a ‘trickle-down’ growth model. To the extent most of India Inc and equity investors are a fan of ‘trickle-down’ growth model, some of them may feel a bit underwhelmed.

Enhancing Tax Compliance & Tax Base

Business with less than Rs 2 crore (20 million) in revenue and professionals with less than Rs 50 lakh(5 million) would be presumed to have a net income of 8% and be taxed accordingly. While this may appear as very easy to comply (which it is) still typical mechanisations used thus far to avoid paying any tax may also come to an end. Small traders who were often perceived to be among the core supporters of BJP may not be ecstatic at this prospect of paying taxes. In fact one may have to wait and watch if this budget will alienate the typical supporters of a right oriented party such as BJP, since BJP may be trying to woo the larger masses.

Budget cannot do everything:

The markets were possibly expecting the budget to allocate Rs30,000 crore (Rs 300 billion) or more for recapitalisation of banks in this fiscal. In sticking to the plan as per previous budget the current budget allocated Rs 25,000. As far as capitalisation, of public sector banks is concerned in next three years it will possibly require Rs 2 trillion (for Basel III compliance) while government has allocated a total of Rs 700 billion over the same period. However, even if the whole amount is provided it is unlikely to solve Indian banking’s problems.

As of latest reports the systemic bad debt currently recognised in Rs8 trillion(close to three-quarters of which are in public sector bank). Given the recovery rate of 30-40% over a period of seven years (still somewhat optimistic) an amount of Rs 2 trillion equity may be required just to recapitalise for the loss over and above the Basel III requirement. What Indian banks need is a bankruptcy law to facilitate prompt recovery and that has to be done outside the budget.

Similarly, the infrastructure push is somewhat moderate in the current budget. It’s a moot point that if the budget had pushed for higher infrastructure spend, are there enough infra-construction players left who are currently not under stress or they have sufficiently low leverage so that banks could have lend them more to execute on the higher quantity of government projects? Thus given the constraints this is possibly the most anyone could have done.

Deep Narayan Mukherjee is a former senior director of Corporate Credit Rating at India Rating and Research, a Fitch Group company. He is currently a visiting faculty at IIM Calcutta