When Arun Jaitley flashed the much-awaited fiscal deficit figure towards the end of his Budget speech, he scored a few brownie points with market players and investors. The 3.2 per cent target set for 2017-18 is no doubt a number to envy. But it has also raised a few eyebrows. And not because the revenue or expenditure numbers look suspect. Rather, due to the lack of clarity on the full impact of demonetisation, that can lead to slower economic growth, and can throw the fiscal deficit ratio out whack. The CSO’s frequent revisions in GDP growth numbers also make it more daunting to gauge the sanctity of the fiscal deficit ratio.
Reasonable assumptions
Most of the assumptions on the numerator — both the expenditure and revenue — appear credible. The growth of 12.7 per cent in tax receipts (net to centre) estimated for 2017-18 is on account of a conservative growth forecast for indirect taxes. Within direct taxes, income tax collections are expected to grow at a higher pace of 25 per cent (23 per cent in 2016-17), possibly taking into account the additional tax revenues from the income declaration schemes announced last year.
Growth in indirect taxes though has been pegged at 8.8 per cent (down from 20 per cent in 2016-17). Excise duties, could suffer if oil prices rally sharply and trigger fuel duty cuts.
On the non-tax revenues front, the Budget assumes divestment proceeds at ₹72,500 crore for FY18. Though not aggressive, these estimates could face some downside risks. But overall windfall from demonetisation by way of dividends from the RBI or additional income tax under PMGKY could boost revenues.
The Budget assumes a conservative 6.6 per cent growth in expenditure for 2017-18, down from 12.5 per cent in 2016-17. This is mainly on account of lower revenue expenditure. Dole out of allowances under the Pay Commission could lead to higher revenue expenditure. Capital expenditure growth has been maintained flat at 10.7 per cent.
Weak link
All in all, most growth assumptions on the revenue and expenditure front are unlikely to rankle. But there is still a weak link to the fiscal deficit target.
Just within a few hours of the Finance Ministry putting out the Economic Survey, the Central Statistics Office (CSO) came out with a new set of growth estimates, not for the current fiscal, but for 2015-16. It bumped up the growth in real GDP from 7.6 per cent to 7.9 per cent for the FY16 fiscal. The revision in nominal GDP growth figures — the basis for arriving at the fiscal deficit ratio — was much higher.
From 8.7 per cent earlier, the CSO revised the growth in nominal GDP for 2015-16 all the way up to 10 per cent. It is unclear what warranted such a sharp revision. In the CSO’s earlier estimates, the gap in the real GDP and nominal GDP had narrowed. With WPI negative to low during 2015-16, the growth in GDP deflator (ratio of nominal to real GDP) — another measure of inflation — was assumed to be more or less flat (1 per cent growth) in 2015-16 when compared to 2014-15. The CSO’s latest estimate has pegged up the growth in GDP deflator to nearly 2 per cent, which is aggressive given the inflation trends in 2015-16.
The Finance Minister, in working out the fisc for the coming fiscal, has taken into account the revised CSO’s estimates for the FY16 fiscal. While it has pegged the growth estimate for FY-17 lower than the CSO’s forecast (10.2 per cent vs 11.9 per cent), it has worked with a higher base (nominal GDP for FY16). This has led to a marginal benefit on the fisc. While the deviation is meagre for now, economists can soon cry foul, if the CSO tinkers with the growth numbers too much in the coming months.
The underlying assumption for growth in nominal GDP for 2017-18 has been pegged at 11.75 per cent. This growth estimate seems aggressive, considering that the survey set a growth range of 6.75-7.5 per cent growth in real GDP for the next fiscal.
If one were to assume the lower 6.75 per cent growth in real GDP for 2017-18, then the growth in deflator works out to around 4.6 per cent, up from 3.5 per cent in 2016-17. This appears aggressive considering the underlying CPI/WPI trends.
Getting it right
It is thus obvious that the uncertain growth outlook can upset the fiscal deficit /GDP ratio for 2017-18. There is however some comfort on the borrowings front. The gross market borrowing stands at ₹5.8 lakh crore for 2017-18, almost flat from the previous year’s ₹5.82 lakh crore figure. Nonetheless, government gross debt is still higher than emerging market (EM) average. Also, State government finances are under stress. The survey has highlighted challenges because of the Pay Commission recommendations, slowing growth, and rising payments from the UDAY bonds. Thus, it is even more imperative for the Centre to follow a credible fiscal policy, one that takes into account a more realistic growth estimate for the underlying economy.
This can hardly be achieved with frequent revisions by the CSO. It is now a little over two years since the introduction of the new GDP series. The CSO needs to find its feet around the new series and fast.
(The article first appeared in The Hindu BusinessLine.)