Interim Budget: FY10 - much ado about nothing

"Interim Budget Report"

 

Interim budget follows convention; no big-bang announcement

In the interim budget today, the government has stayed within the conventional ambit of interim budget and kept away from any big-bang announcement. Our expectations were generally muted from the budget (refer Interim Budget: FY10 – More than the usual vote-on-accounts? dated February 11). Nevertheless, we expected some tax exemptions for the housing sector and hike in import duty on steel, which did not come through in the budget.

 

The focus, as expected, was largely on social and rural infrastructure, employment generation, SMEs, labour intensive and export oriented sectors. The government has extended interest subvention of 2% on export credit for sectors like textiles, carpets, leather, gem & jewellery, marine products and SMEs. Recapitalization of PSU banks over the next two years was already announced in the stimulus package and, therefore, does not come as a surprise. Budgetary support has been increased for road and rail transport, power, defence and IT.

 

Deficit and borrowing ballooning up

Government deficit for FY09 and FY10 is ballooning up on rising expenditure and significant revenue slowdown. Gross fiscal deficit (GFD) and revenue deficit (RD) estimates for FY09 are revised up to 6.0% (from 2.5% budget estimate, BE) and 4.4% (1% BE), respectively. GFD and RD estimates for FY10 are pegged at 5.5% and 4.0%, respectively.

 

The high deficit is leading to ballooning up of government's market borrowings. For FY09, the gross market borrowing by dated securities has moved up to ~INR 2,620 bn (RE) from INR 1,006 bn (BE). For FY10, the borrowing estimate stands at ~INR 3,086 bn (BE). The government also expressed the need for enhancing plan expenditure (at least by another 0.5-1.0% of GDP) in the subsequent regular budget. Accordingly, the deficit and borrowing requirements are likely to go up further in FY10.

 

The whopping government borrowing programme reflects government's expectations of further slowdown in tax revenue in Q4FY09, the quarter that  generally contributes the biggest chunk of overall direct tax collection, as well as in FY10. Uncertainties related to the much talked-about auction of 3G licenses and government's intention of disbursing the remaining part of the overall pay commission recommendation related outgo in April has enhanced the government's appetite for additional funds.

 

Supplementary measures likely from RBI

The massive borrowing by the government is likely to be supported by aggressive monetary accommodation by Reserve bank of India (RBI). In the absence of a significant monetary accommodation from the central bank, the large government borrowing will put pressure on interest rates. RBI, however, continues to reaffirm its commitment towards maintaining ample liquidity in the system and to keep interest rates benign. We expect reduction of both repo and reverse repo rate by 50bps each (to 5% and 3.5%, respectively) in February itself. RBI has already announced additional quantitative measures like purchase of government securities through open market operations (OMO), which has to be substantial to keep interest rates benign. RBI is also likely to step up release of funds locked with it against Market Stabilisation Scheme (MSS) securities. Depending on the liquidty conditions RBI will also be open to reduce the cash reserve ratio (CRR).