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India is expected loosen its purse strings and raise its borrowing target in the federal budget on February 1 as a slowing economy and a severe job crisis puts the Modi government under immense pressure to boost demand.
The budget will be a test in fiscal prudence for finance minister Nirmala Sitharaman, who is widely expected to implement populist. But questions remain about where the money will come from at a time when tax revenues have shrunk.
After years of overshooting self-imposed targets, the Indian government in the recent past managed to rein in its ballooning fiscal deficit mostly through higher fuel taxes and cuts in subsidies.
But a big shortfall in tax collections due to weak economic growth - which pushed unemployment to a 45-year high - and stagnant average household income may prompt Sitharaman to introduce further stimulus.
India's fiscal deficit has already crossed the budgeted target for the current fiscal, running at 115 percent. That along with the implementation of pre-election promises in the interim budget will widen the fiscal gap further.
"We expect the FY20 deficit to come in at 3.8 percent of GDP, overshooting the 3.3 percent target. Slippage is inevitable, in our view; we estimate that spending cuts of c.INR 2.1 trillion (c.1.0 percent of GDP) will be insufficient to offset a tax and non-tax revenue shortfall of c.INR 2.9 trillion (c.1.5 percent of GDP). As a result, we expect FY20 to see a reversal of India’s fiscal consolidation path," said Anubhuti Sahay, Head, South Asia Economic Research at Standard Chartered Bank, India.
"We expect the FY21 fiscal deficit target to be set at 3.6 percent of GDP (or 3.5 percent if slippage in FY20 is less than we expect). The FY21 target will depend on the actual FY20 deficit and whether the government decides to provide another round of economic stimulus in FY21."
Meanwhile, Sahay also noted that an income tax cut to boost consumer demand could widen the central government’s FY21 deficit by 0.2-0.5 percent of GDP from our baseline scenario of 3.6 percent.
