Budget 2017: Economy

Fiscal resolve may pave way for rate cut

With Finance Minister Arun Jaitley showing resolve for maintaining fiscal discipline, the ball is now on the Reserve Bank of India’s court to take a cue and lower interest rates further.

Mr. Jaitley pegged the fiscal deficit target at 3.2% for the next financial year which is lower than what the market expecting.

Debt to GDP

The committee which was set up to review fiscal responsibility and budget management (FRBM) has favoured debt to GDP of 60% by 2023, as compared to about 66% now, consisting of 40% for Central Government and 20% for State Governments. Within this framework, the Committee has derived and recommended 3% fiscal deficit for the next three years.

While commenting that the report will be carefully examined, Mr. Jaitley said he took note of the fiscal deficit roadmap of 3% as recommended by the Committee for the next three years.

The new fiscal roadmap also gives the Centre an escape clause (allowing a deviation of up to 0.5% of GDP) in case of far reaching structural reforms with unanticipated fiscal implications.

“I have pegged the fiscal deficit for 2017-18 at 3.2% of GDP and remain committed to achieve 3% in the following year. With this gradual approach, I have ensured adherence to fiscal consolidation, without compromising the requirements of public investment,” Mr. Jaitley said in his budget speech.

Bank of Merrill Lynch said in a note: “We grow more confident on our call that the Union Budget will support lower lending rates.”

“Finance Minister Jaitley has targeted a fiscal deficit of 3.2% which is lower than our forecast of 3.5%. We expect RBI to cut policy rates by 25 bps with the finance minister pursuing fiscal consolidation. On balance, we expect banks to cut average lending rates by 50-75 bps by September.”

Since January 2015, the central bank has reduced the repo rate by 175 bps points. Though banks were initially reluctant to reduce lending rates, but after the demonetization exercise which helped the banks to reduce cost of funds, they reduced lending rates sharply from the beginning of January.

“The commitment to consolidation also puts pressure on the RBI to reduce the policy rate in the next monetary policy,” economists at HDFC Bank said in a note.

The report also notes that the Finance Minister’s decision not to fully utilize the escape clause provided by the FRBM committee, even if there was disruption caused by demonetisation, and keeping the deficit at 3.2% was disappointing, given the need for propping up both public investments and consumption momentum.

Nomura has termed the budget as prudent and popular, not populist, which it said in line with their expectation.

“Overall, the government’s decision to stick to fiscal consolidation – despite the growth hit caused by demonetisation and the upcoming state elections – is a positive signal, in our view. The budget also resisted announcing a universal basic income scheme, which would have entailed a large fiscal cost,” said Sonal Verma, research analyst with Nomura, in a note.

While Nomura was expecting 3% fiscal deficit target for the next financial year, but said the estimate was slightly better than consensus estimate. “The middle path balances the need for higher public infrastructure spending with the medium-term need for continued prudence,” according to the note.

Room for slippage

Ratings agency Moody’s said that it expects the deficit targets to be achieved but cautioned that there is limited room for slippage.

“The budget speech’s emphasis on fiscal prudence indicates that continued commitment to gradual fiscal consolidation remains,” said William Foster, Vice President, Sovereign Risk Group, Moody’s Investors Service. “We expect the deficit targets to be achieved, although there will be limited room for slippage for instance if the economic environment turns less favourable.”


Our code of editorial values

Related Topics
This article is closed for comments.
Please Email the Editor

Printable version | Jun 18, 2021 10:10:47 PM | https://www.thehindu.com/business/budget/Fiscal-resolve-may-pave-way-for-rate-cut/article17129584.ece

Next Story