On May 31, important updates regarding India’s GDP growth and the Centre’s fiscal performance for 2020-21 became available. According to NSO’s provisional estimates for 2020-21, the annual contraction in real GDP turned out to be 7.3 per cent, an improvement over the earlier estimate of 8 per cent. A real GDP growth of 7.8 per cent would be required in 2021-22 to reach back to 2019-20 real GDP levels.
The erstwhile GDP growth projections for 2021-22 are being re-examined to take into account the adverse impact of the second wave of the pandemic. The RBI has revised down its 2021-22 real GDP growth forecast to 9.5 per cent. Some other recent estimates (ICRA) indicate the feasibility of a 9 per cent growth. At the lower end, a growth of 8.5 per cent is being projected by Societe Generale, and 7.6 per cent by Moody’s. We consider that with suitable policy interventions, a 9 per cent real GDP growth may still be feasible if the lockdowns wind-up by end July. It is also important to consider nominal GDP growth for 2021-22 since that would be a critical determinant of fiscal prospects. In the light of supply-side and cost-push pressures, the RBI has projected CPI inflation at 5.1 per cent. Given the recent trends in CPI and IPD (implicit price deflator) based inflation rates, the latter may be somewhat lower at say 4 per cent. Thus, the nominal GDP growth may be projected at 13.4 per cent, that is, 1 percentage point lower than Centre’s budget assumption of 14.4 per cent.
The Controller General of Accounts’ data for the Centre’s fiscal aggregates indicate a gross tax revenues (GTR) of Rs 20.2 lakh crore and net tax revenue of Rs 14.2 lakh crore for 2020-21. The likely growth in GTR for 2021-22 may be derived by applying a buoyancy of 0.9 — the average buoyancy for five years before 2020-21 — to the projected nominal GDP growth of 13.4 per cent (the budget assumed a buoyancy of 1.2). This gives a tax revenue growth of 12 per cent, translating that to projected gross and net tax revenues for 2021-22 would mean Rs 22.7 lakh crore and Rs 15.8 lakh crore respectively. This implies some additional net tax revenues to the Centre amounting to Rs 0.35 lakh crore as compared to the budgeted magnitudes. The main expected shortfall may still be in non-tax revenues and non-debt capital receipts. According to the CGA numbers, their 2020-21 levels are respectively Rs 2.1 lakh crore and Rs 0.57 lakh crore. Applying a growth rate of 15 per cent on these, a shortfall in 2021-22 to the tune of Rs 1.3 lakh crore may arise in non-tax revenues and non-debt capital receipts.
Historically, the growth rates of non-tax revenues and non-debt capital receipts have been volatile, but together they average to a little lower than 15 per cent during the five years preceding 2020-21. In any case, the large budgeted growth of 304 per cent in non-debt capital receipts for 2021-22 seems quite unlikely because of the challenges posed by the second wave. Taking into account RBI’s recently announced dividend of Rs 0.99 lakh crore to the Centre, the main shortfall may be in non-debt capital receipts. Together, the overall shortfall in total non-debt receipts may be limited to about Rs 0.9 lakh crore, or 0.4 per cent of estimated nominal GDP. This indicates that a slippage, if any, in the budgeted fiscal deficit of 6.7 per cent of GDP, as revised in view of the recently released GDP data, could be a limited one.
Given the economic challenges in the wake of the second wave, three expenditure heads need to be prioritised. First, an increase in the provision for income support measures for the vulnerable rural and urban population. This would require an amount of Rs 1 lakh crore which may be partly provided through expenditure restructuring. Second, in light of the recent decision, the budgeted expenditure on vaccination of Rs 0.35 lakh crore ought to be augmented, at the very least, doubled. Third, additional capital expenditure for select sectors, particularly healthcare, should also be provided for. This may be another Rs 1 lakh crore. Together these additional expenditures would amount to Rs 1.7 lakh crore, about 0.8 per cent of the estimated nominal GDP. Thus, we need to plan for a fiscal deficit of about 7.9 per cent of GDP consisting of (a) a budgeted fiscal deficit of 6.7 per cent (b) 0.4 per cent to make up for the shortfall in total non-debt receipts and (c) 0.8 per cent for the additional stimulus measures.
The Centre has announced borrowings of Rs 1.6 lakh crore to meet the shortfall in the GST compensation cess. This amount is not to be counted as its deficit, although it adds to the borrowing programme. Given the higher fiscal deficit, it would need to add to its borrowing programme another Rs 2.6 lakh crore, taking the total borrowing, including GST compensation, to about Rs 16.3 lakh crore, from Rs 12.05 lakh crore now. Borrowing by states would be in addition to this. The net result will be an unprecedented borrowing programme by the Centre which may require RBI’s support. That, in fact, is happening now. RBI is injecting liquidity into the system through various channels. Banks have sufficient liquidity to subscribe to new debt. This is indirect monetisation of debt. This is not new, but the scale is much higher. Direct monetisation is best avoided.
The government and the RBI are keen to keep the interest rate low despite this heavy borrowing. The household sector’s appetite for financial assets may not increase. The external sector’s demand for Indian sovereign bonds may also be lukewarm. The success of the borrowing programme of the Centre depends on the support provided by the RBI. The support need not be direct. It can be indirect as is currently happening. RBI is injecting liquidity into the system in a big way. According to the latest monetary policy statement, the growth rate in reserve money is 12.4 per cent (as on May 28). So far, the injection of liquidity has been benign. Money supply (M3) growth is modest at 9.9 per cent and credit growth is only 6 per cent (as on May 21). What these numbers show is that the money multiplier is low. This may be attributed to two reasons: Low credit expansion and larger leakage in the form of currency. The potential for money supply growth is large. The discussion in the monetary policy statement on inflation is focused entirely on supply availability and bottlenecks in the distribution of commodities. The output gap is certainly relevant. But equally relevant in an analysis of inflation is liquidity in the system, and its impact on output and prices with lags. The injection of liquidity has its limits. Even as we emphasise the expansion in government spending, it is necessary to keep in mind the implications that liquidity expansion will have for inflation.
This column first appeared in the print edition on June 11, 2021 under the title ‘A plan to spend more’. Rangarajan is former chairman, Economic Advisory Council to the Prime Minister and former governor, RBI and Srivastava is Chief Policy Advisor, EY India and former Director, Madras School of Economics. Views expressed are personal.
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