Tag: Fiscal Deficit

NARCL may not hit this year’s fiscal outgo, says DBS Research, BFSI News, ET BFSI

Banking & Finance

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India’s bad bank is unlikely to impact this year’s fiscal outgo, according to a report by DBS Research.

The transfer of assets from banks to the National Asset Reconstruction Company Ltd (NARCL) will be in the form of ‘contingent liability’, which will be invoked when there is a shortfall upon resolution or liquidation.

Also read: Banks may sell Rs 1 lakh crore of fraud-hit loans to NARCL, ARCs

The transfer is likely to free up capital for banks, and price discovery is likely to be addressed by bad assets being bought at net book value, the report said

However, gross Non Performing Assets are likely to correct to the scale, while net NPAs will be a little changed.

Reform fine tuning, such as the announcement of the bad bank, strong external buffers, domestic equity outperformance and improving fiscal math have been positive for India’s economic narrative.

Also read: What are NARCL and IDRCL? How do they work and what is the plan?

India’s financial markets, including rupee, are no longer a part of the fragile five pack of economies, even as the US Federal Reserve prepares to taper its purchases of securities and bonds.

During the taper tantrum episode in 2013, India was part of the “Fragile Five,” representing a group of emerging market economies which were running weak external accounts and had poor cover for the external funding.

Compared with 2013, the rupee will be more resilient when the US Fed tapers asset purchases this time. The brokerage expects the Indian Rupee to hold its COVID-19 range of Rs 72-77 per US dollar into 2022.

India’s fiscal performance has been surprising this year, with the deficit reaching only 21.3% in April-July of the budgeted estimate, lower than 103% in April-July 2020, DBS Research said.

Revenues are outpacing expenditure, with net tax revenues at 34% in April-July, against 12.4% a year ago, and non-tax revenues at 58%, against 6.4% last year.

The onset of the third COVID-19 wave is likely to be less fatal as the economy seems to be having a better shock absorption capacity, the research said.

According to the report, employment, power consumption, and other indicators have reached pre-pandemic levels, benefiting from lower curbs but levelling off at highs into September.

However, this is unlikely to upgrade India’s overall sovereign rating. DBS Research expects ratings to be status quo.



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balancing growth and inflation, BFSI News, ET BFSI

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2021 is witnessing a K-shaped recovery, with most developed countries seeing higher growth rates while most developing countries are decelerating post the initial growth.

This has resulted in a varied response by the central banks. Few markets like Turkey and Russia have increased their interest rate to control inflationary pressures. At the same time, others like European central banks (ECB) and Chinese central banks maintain an accommodative stance.

The European central bank (ECB) has maintained an accommodative stance with a negative interest rate with the main deposit rate at -0.5%. The bank has increased the inflation target to 2%, indicating it is looking at a dovish stance even in 2022.

In contrast, the federal reserve is looking at pulling out liquidity in 2022 as the fiscal stimulus creates inflationary pressure. The indication of this can be seen within the latest Federal Open Market Committee (FOMC) meeting minutes.

In Asia, the Chinese central bank, in its latest policy, has undertaken liquidity boosting measures which is expected to release 1 trillion Yuan into the Economy. This action points to the concern the Chinese central bank has regarding the impact of the current geopolitical situation on its Economy. Japan has also kept an accommodative stance, with COVID-19 being a key concern given the vaccination rate.

We believe this variance in policy across countries is driven primarily by three key factors:
1. Success in fighting the pandemic through vaccinations
2. Ability to provide a sizeable fiscal stimulus
3. Impact of COVID-19 on critical drivers of economic growth

Countries that have been relatively successful in vaccinating the majority of their population are returning to pre-pandemic levels of economic activity. They see their employment rates rise while the supply chains are normalized. Central banks here are targeting the normalization of rates by the end of this year.

Also, governments that have provided massive fiscal stimulus to bolster initial monetary support have been able to moderate the impact of covid on growth. This has provided the central bank with headroom to increase rates to control inflation.

Finally, export-driven economies that have been able to take advantage of the record commodity prices are experiencing higher growth than consumption-driven economies. Central banks here are prioritizing currency stability.

In the case of India, while we have been able to recover from the devastating second wave, the vaccination coverage required to lift all restrictions is not expected to be reached before the end of 2021. Also, there is limited scope to provide a large fiscal stimulus given India’s fiscal deficit. With consumption which is a crucial driver of economic growth impacted due to second wave and resultant local lockdown, India’s growth is expected to be at 9.5% compared to the previous
estimate of 12.5%.

Given the current scenario, the Reserve Bank of India (RBI) will have to prioritize growth. Most central banks globally have stuck to their dovish stand, with only countries seeing high inflationary pressure raising rates. Globally, central banks, especially in developed countries, are expected to start taking a hawkish stance only by the beginning of 2022.

RBI should also maintain an accommodative stance with a gradual pull back of liquidity measures once sustained economic growth is observed. We expect the government of India to continue its reform push and look at providing additional fiscal stimulus. These measures are expected to accelerate growth once we can lift covid restrictions across sectors and states.

Synchronizing the monetary tightening with economic growth is critical. RBI, just like its global counterparts, has been able to walk the tightrope of balancing growth and inflation. The key going forward will be to identify the right time to rebalance the pole, focusing on shifting from growth to inflation.

The blog has been authored by Nilaya Varma, CEO, Primus Partners and Shravan Shetty, MD, Primus Partners

DISCLAIMER: The views expressed are solely of the author and ETBFSI.com does not necessarily subscribe to it. ETBFSI.com shall not be responsible for any damage caused to any person/organisation directly or indirectly.



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Creating new money has downsides: RBI governor Shaktikanta Das

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He strongly rebutted the notion that a sharper and sustained focus on the yield curve might be eating away at the central bank’s principal mandate, which is, inflation-targetting.

By KG Narendranath & Shobhana Subramanian

Direct financing of the government’s fiscal deficit by the central bank or creation of new money is fraught with several downsides, Reserve Bank of India (RBI) governor Shaktikanta Das said on Wednesday. The RBI’s role as the general government’s debt manager has only helped quicken the transmission of monetary policy during the pandemic period as lower funding rates co-existed with plenty of liquidity, Das said in an exclusive interview with FE.

The governor strongly rebutted the notion that a sharper and sustained focus on the yield curve might be eating away at the central bank’s principal mandate, which is, inflation-targeting.

Asked if the RBI had lately become a little more tolerant towards higher bond yields – at the last auction held on Friday, it set the cut-off yield for 10-year government securities (G-secs) at 6.1% after keeping it at below 6% for several months –, he said, “We’ve never had any fixation that the yield should be 6%, but some of our actions might have conveyed that impression. We are only interested in orderly evolution of the yield curve and market expectations seem to be converging with this approach.”

The RBI is seen by many as currently being burdened with its subsidiary function of meeting the government’s borrowing requirements, which were of an unprecedented order of Rs 21-22 lakh crore in FY21 and are likely to be of a similar magnitude in the current financial year also. Of course, it has so far ensured that the Centre and state governments have raised these funds from the market in an uninterrupted manner and at low costs.

Experts have said RBI may want to print money in order to monetise the fiscal deficit instead, since given the huge revenue shortfalls, even a far-larger-than-usual borrowing programme of the government isn’t producing any meaningful fiscal stimulus. Das said: “This (creating new money to finance deficit) was done away with as part of the economic reforms … and it was further repudiated when the FRBM Act was enacted.”

In 2020-21, the government’s borrowing costs were the lowest in 16 years, and private sector borrowing costs too substantially reduced, spurring economic activity, the governor said, adding that financial stability too was ensured across the board. “Housing loans have been available at all-time low rates for quite some time, facilitating a pick-up in the construction sector despite the second Covid wave”.

According to Das, the current spike in inflation was by and large transitory in nature and inflation could moderate by the third quarter. “What is transitory in nature needs to be watched very carefully. Any hurried or hasty action could completely pull down the economy, at a time when the revival is nascent and hesitant,” he said, when asked how serious a threat the unfolding inflation posed to the growth-supportive bias in the conduct of monetary policy. Many analysts have seen a build-up of price pressures in the economy, as inflation reading came above the upper band of the RBI’s target of 4+/-2%, for the second successive month in June.

Stating that the current inflation was largely influenced by “supply-side factors”, he cited the prices of diesel and petrol, including the Centre’s and states’ taxes on the two auto fuels. The governor reiterated that the Centre and states would do well to take more measures to soften the pace of inflation.

Asked whether the government’s reported plan to stand guarantor to the security receipts to be issued by the National Asset Reconstruction Company (bad bank), while acquiring stressed loans from banks, amounted to an untenable bailout of the banks, Das said internationally too, whenever there was systemic clean-up of bad assets, the sovereign played such important roles. “The US government came out with the policy of Troubled Asset Relief Program after the global financial crisis. There are other such examples from other countries. Coming to India, what is important is that this ARC framework that is being put into place should be driven by market principles. There are two aspects to it. One, the price at which the stressed assets would be transferred by the banks to the ARC should be linked to the market prices, based on fair assessments of the value. Second, when the ARC would want to dispose of the assets, it should again be driven by market principles”.

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Do not to ignore the probable cost of lower inflation: RBI study

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When inflation is higher than the threshold level, estimated at 6 per cent for India, reduction in inflation rate leads to a much smaller gain in the long-term growth compared to when inflation is lower and rises towards the threshold level, according to a Reserve Bank of India study.

The Study estimated the trade-off between long run inflation and steady State growth (SSG) rate, whereby the long-term growth would fall by 40 basis points/bps (or 0.4 percentage point) if the initial inflation rate was less than the threshold rate.

However, if the initial inflation rate was higher than the threshold rate, it would result in an increase of long-term growth by 15 bps.

“…Of course, there are arguments in favour of lower inflation rate in terms of its favourable redistribution impact particularly on the poor and the financial stability concerns,” said authors Ravindra H Dholakia, Jai Chander, Ipsita Padhi and Bhanu Pratap.

However, the findings of the present study caution the policy makers not to ignore the probable cost of lower inflation in terms of lower long-term growth of output and employment and hence lower rate of the poverty reduction.

These costs and benefits of fixing a long-term inflation target will have to be considered while making the choice, the authors opined.

The findings of the Development Research Group (DRG) Study show that the threshold inflation and corresponding growth are not unique for a country but depend on the other two parameters – Fiscal Deficit (FD)/GDP and Current Account Deficit (CAD)/GDP.

If a country chooses the target values of FD/GDP and CAD/GDP to be achieved in the long run, its potential output growth gets determined through the corresponding value of threshold inflation.

“If the country then chooses an inflation target that is lower than the threshold level, it cannot achieve its potential output growth and the system would remain in long-run disequilibrium requiring constant policy interventions to stabilize,” the authors said.

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G-Sec yields may soften temporarily if last two weekly auctions are cancelled: ICRA

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Government Security (G-Sec) yields could soften temporarily as the Government of India’s (GoI) fiscal deficit may undershoot FY2021 Revised Estimate (RE) by ₹50,000 crore to ₹90,000 crore, possibly resulting in cancellation of the final two G-Sec auctions, according to credit rating agency ICRA.

ICRA observed that the yield for the 5.85 G-Sec 2030 has risen by more than 35 basis points (bps) since its introduction, to 6.23 per cent intra-day as on March 5, 2021, with an uptick in the recent weeks.

This increase in yields is mainly due to higher-than-expected fiscal deficit and borrowings of GoI for FY2021 and FY2022, a rise in US Treasury yields and hardening crude oil prices.

 

“In our assessment, there could be a modest upside to the GoI’s tax revenues, whereas its non-interest non-subsidy revenue expenditure may trail the Revised Estimate (RE) for FY2021. Therefore, the GoI’s fiscal deficit in FY2021 may end up undershooting the RE of ₹18.5 lakh crore by ₹50,000 crore to ₹90,000 crore,” said ICRA in a study.

Accordingly, the agency projected the fiscal deficit in FY2021 at ₹17.6-18.0 lakh crore or 9-9.2 per cent of GDP (as per ICRA’s nominal GDP forecasts), lower than the 9.5 per cent of GDP included in FY2021 RE.

“Based on this, we assess a lower borrowing requirement of the GoI in the remainder of this fiscal year. However, given the substantial devolvement in Friday’s auction, it remains unclear whether the GoI will choose to cancel the last two weekly auctions of Government of India security (G-sec) with a planned amount of ₹49,000 crore, instead of carrying forward larger cash balances,” ICRA’s economists Aditi Nayar, Yash Panjrath, Aarzoo Pahwa and Tiasha Chakraborty said.

If the final two G-Sec auctions for March 2021 are cancelled, ICRA expects the yield for the benchmark 5.85 GS 2030 may temporarily soften from the current levels (6.2324 per cent) to 6.10-6.15 per cent in the remainder of this month.

Subsequently, the bond yields would take cue from the domestic inflation trajectory, upcoming borrowing calendar of the GoI for H1 (first half) FY2022 and the State governments for Q1 (April-June) FY2022, magnitude of Open Market Operations (OMOs), as well as global factors such as movement in US treasury yields, crude oil prices, and overall risk sentiment.

Yields may remain elevated

Based on the available trends, the agency expects the headline CPI inflation to average around 6.1 per cent in FY2021, before easing to 4.5 per cent in FY2022, while remaining above the mid-point of the Monetary Policy Committee’s (MPC’s) current target range of 2 per cent to 6 per cent. ICRA anticipates that the MPC will leave the repo rate unchanged in 2021.

Given the large supply of dated G-sec and state development loans (SDL) that is expected in FY2022 (aggregate net supply projected at ₹16.0-16.5 lakh crore), yields may remain elevated in the absence of sizeable and frequent market operations.

In ICRA’s view, the benchmark yield may rise during Q1 FY2022, to as much as 6.35 per cent by the end of the quarter.

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How high fiscal deficit impacts you

Personal Finance

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A phone call between two friends leads to a conversation on how the government’s fiscal deficit impacts the interest rates in the economy.

Karthik: Hey, will you be following the Budget tomorrow? All eyes will be on the fiscal deficit number.

Akhila: Fiscal deficit?

Karthik: Yes. It shows by how much the government’s total expenditure overshoots its receipts in a year. Usually, most developing countries tend to spend more than what they earn. But too much of anything leads to problems, right?

Akhila: Say, the government runs into a huge deficit this year. What will be the impact?

Karthik: There are many ways in which the deficit could impact a common man. Let me stick to explaining to you how it influences the interest rates in the economy.

Akhila: I’m all ears.

Karthik: Tell me how do you think the government earns revenue?

Akhila: By way of taxes. Ask me about it. I pay tax on almost everything!

Karthik: The government also receives dividends from public sector companies. Disinvestment – selling its stake in public sector units – is yet another revenue generator.

Once it exhausts these options and a few others, it resorts to borrowing from the market to meet its expenses.

Akhila: Oh..

Karthik: But, the government is not the only one borrowing in the market. Private companies too borrow from the market to meet their requirement for funds.

The higher the government’s deficit, the greater need for borrowing. Thus, the demand for limited money available to lend increases.

Akhila: So?

Karthik: Apply the supply and demand concept. A limited supply of something coupled with higher demand leads to a rise in cost.

Akhila: So, in this case, the cost of borrowing increases?

Karthik: Absolutely. The interest rate in the market shoots up.

Resultantly, many businesses may find it difficult to borrow at higher rates and this may impact the overall level of private investment in the economy, leading to lower economic activity over time.

The consequent fall in tax collections, in turn, can adversely impact the government’s revenue and deepen its fiscal deficit.

Akhila: Oh, that’s a vicious circle. If the situation gets worse, the Reserve Bank of India (RBI) may intervene and do something about it, right?

Karthik: That’s a good point.

So, we need to wait and watch how the Central bank comes to the government’s rescue by smoothly managing its borrowing programme, and at the same time keeping the interest rates under check with its monetary policy.

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Samiran Chakraborty, Citi, BFSI News, ET BFSI

Banking & Finance

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2021 could be a year when both the RBI and the government will have to plan for at least some amount of normalisation, says Samiran Chakraborty, Chief Economist (India), Citi in conversation with ET NOW.
Digitisation and work from home has changed fortunes of Indian IT sector in terms of availability and optimisation. When the real economy shapes up in the post Covid world, are these factors which could surprise us and create a lot of upside?
It is quite possible. It could work both ways. On the positive side, we have seen a significant improvement in profitability in the September quarter numbers for companies. Even if you adjust for factors like travel cost or advertisement and promotion costs or to some extent even wage cost, there still seems to be a residual element which could be attributed to productivity improvement.

On the other hand, because of all these physical distancing protocols to be maintained in different kinds of services and in some cases even may be in manufacturing, there is a decline in productivity which has led to somewhat higher prices — part of the reason why inflation has picked up during the Covid period. It is not just simply because of the lack of mobility issue but it could also be due to the fact that companies are being forced to abide by these physical distancing protocols leading to some productivity decline.

Both the things are working simultaneously but my sense is that over the next couple of quarters, looking at the productivity data and for wage cost, travel cost etc. we will have a much better sense of how much permanent improvement in productivity is contributing to this profitability.

We have got three important data points which are different. Bond yield is at a multi-year low, forex is at a multi-year high and rising fiscal deficit. We do not know how things will move in the Budget. How important are these three variables to judge the economy?
At least for the first two, there is a strong element of RBI intervention which is keeping those two variables where they are. Fiscal deficit is more in the control of the government to decide where they want to put it. Now while we are all discussing the nascent economic recovery, we have to keep in mind that this recovery is to some extent on the crutches of the fiscal and monetary stimulus and 2021 could be a year when both the RBI and the government will have to plan for at least some amount of normalisation.

It may not be done immediately but in the latter part of the year, normalisation will probably become a necessity and that is where these variables will start playing an important role in the economy. We are not thinking of any policy rate hikes in 2021 but to some extent surplus liquidity in the banking system might get normalised which means that rates in the system go up a little bit. So, the 10-year government bond yields can move up to about quarter over the course of the year. On the exchange rate side, the big dilemma is that because we are having a current account surplus or at least a much lower current account deficit and huge amount of capital inflows, there is a constant pressure on the currency to appreciate which the RBI does not want to do because we are simultaneously following a self-reliant India campaign and putting some sort of import curbs to promote domestic manufacturing.

If the RBI is intervening so much that it is creating surplus liquidity that will militate against the RBI bid to tighten liquidity at the latter part of the year, how RBI manages between the two is going to be very critical for 2021.

On fiscal deficit we think it is possible for the government to target about a 4.5% fiscal deficit in the Budget this year on the back of slightly lower than 7% fiscal deficit and GDP last year and that is possible by so much of expenditure compression. But if the economic growth is normalising, then the revenue side will improve on the tax revenue side while on the non-tax revenue side, a lot of divestment proposals which could not fructify in FY21 might be carried over to FY22 and help the FY22 revenue collection. 4.5% fiscal deficit and GDP in our view is quite possible for next year.



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