Less than a week after the Union Budget, the Reserve Bank of India (RBI) on Wednesday kept the key policy rate unchanged at 6 per cent for the third consecutive time and raised red flags on “several uncertainties” on the inflation front, impact of “fiscal slippage” that the Budget indicated and “five levies” that could impact investments and savings.
Unveiling the bi-monthly monetary policy statement in Mumbai, RBI Governor Urjit Patel said “significant and postponed deviations” from fiscal targets would make matters “more challenging” going forward. He flagged risks from the 7th pay panel implementation in states, spike in oil prices, hike in customs duties, fiscal slippage to 3.5 per cent in 2017-18 and a higher target of 3.3 per cent for 2018-19 as against the target of 3 per cent.
Even as the stock market gave a thumbs-down to the 10 per cent tax on long term capital gains (LTCG) from equities, Patel said, “There are five taxes on capital and that would obviously also have an impact on investments and savings decisions.”
According to Patel, there is corporate tax on companies, dividend distribution tax (DDT), tax on dividend income above Rs 10 lakh, securities transaction tax (STT) and also the capital gains tax. “Taxation on capital in India is from several sources and I think that then at the marginal rate, it adds up,” Patel said, replying to a query on subdued investment to GDP ratio.
Patel said fiscal slippage as indicated in the Budget could impinge the inflation outlook. “Apart from the direct impact on inflation, fiscal slippage has broader macro-financial implications, notably on economy-wide costs of borrowing which have already started to rise. This may feed into inflation,” he said.
While the Monetary Policy Committee (MPC) reiterated its commitment to keep headline inflation close to 4 per cent on durable basis, it projected inflation at 5.1-5.6 per cent in the first half before moderating to 4.5-4.6 per cent in the second half with upside risks. The monetary policy was far less hawkish than expectations, implying that unless things really go awry, particularly in the crude oil market or the domestic fiscal policy, and push inflation way above the projected trajectory, the RBI could stay on hold in the near term.
Deterioration in public finances risks crowding out private financing and investment. The policy committee, the RBI said, was of the view that the nascent recovery must be carefully nurtured and growth put on a sustainably higher path through conducive and stable macro-financial management.
The RBI said the Budget has proposed revised guidelines for arriving at the minimum support prices (MSPs) for kharif crops, although the exact magnitude of its impact on inflation cannot be fully assessed at this stage. “The Union Budget has also proposed an increase in customs duty on a number of items,” it said. The confluence of domestic fiscal developments and normalisation of monetary policy by major advanced economies could further adversely impact financing conditions and undermine the confidence of external investors. “There is, therefore, need for vigilance around the evolving inflation scenario in the coming months,” it said.