Has CAD become the new FAD? Financial Express 15th March 2013

Linking fiscal deficit with the CAD is incorrect and misleading. Ideally, India should encourage more FDI to narrow the gap
Going by the obsession of both RBI and now the finance ministry, attention has been deflected from the fiscal account deficit (FAD) and interest rates to the current account deficit (CAD). We have probably now assumed that growth has bottomed out and can only improve from here and that inflation is something over which we have no control. With the usual tossing of issues of interest rates and growth stimulus between the RBI and the ministry of finance becoming passé, the CAD has caught everyone’s attention. At times, we have gone overboard to also say that the fiscal account deficit (FAD) is responsible for the CAD. Are we missing something somewhere?The CAD is actually one aspect of the economy over which no one has any control and is largely market-driven. It happens exogenously and neither RBI nor the government is responsible for the number. As the government is not really involved in most of the components of the external account (except for loans from IMF, etc), tracing the problem to the fiscal side is questionable.The two components are the trade deficit and the invisibles account. Exports increase or decrease due to demand or competitive conditions. The commerce ministry can provide sops to exporters, but if they have to push forward their product, the price and quality matter. The rupee has been under pressure and should have given an impetus. But that has not worked with the global economy in a tailspin. The fiscal deficit does not matter here.The same is the case with imports. As mentioned by the FM, the imports nemesis is the COG bill—coal, oil and gold. The government is not spending on these items, but the public is. Therefore, the government does not come into the picture as has been alleged. The best the government can do is to raise duty rates or restrict quantitative imports—which it is loath to do given that we have agreed to the rules of WTO, which accepts tariffs but discourages quotas. There have been measures taken to curb the import of gold by making it expensive, which has worked at the margin. Fiscal spending again does not directly affect the trade deficit. The subsidy provided on fuel products only protects sections of society from the price changes and does not add on its own to the demand for oil.A thought worth considering is to have quotas for gold imports and also restrict the end-use of forex taken under the R2 lakh allowance. While it is true that a black market will emerge, it will not involve official forex reserves and hence this could be one way of drawing out black money from the system as these transactions would have to be off the official channels—both dollars and gold.The other component, invisibles, again does not feature the government anywhere in its spending. The receipts come from remittances and earnings of IT companies, which, linked with the global fortunes, have no government intervention. Therefore, linking the FAD with the CAD is incorrect and misleading. The two are distinct entities and while theoretically the CAD is the difference between savings and investment, where government dis-saving on account of high spending lowers the savings rate, none of the transactions per se actually affect the CAD significantly. The theoretical formulation of this linkage is more an ex-post identity.This also means that RBI also can do little to influence any of these components and, like the government, can only amend policies to encourage countervailing flows to make up for the widening CAD. As the current account has been opened up for all practical purposes, there is little scope for having any restrictive conditions here. Our recognition that the CAD is a problem is noteworthy, which has been reiterated by the FM in the Budget speech. The solution is more in the area of opening up the windows to capital flows. But this has to be viewed with caution. Quite clearly, if the CAD widens and we want to protect our forex reserves and thereby the exchange rate so that RBI does not have to intervene regularly to steady the rupee, foreign investment has to be welcomed in a big way. We are tending to focus more on investment through the portfolio route, but the only concern is that their enlarged limits in government securities market and the other debt segments actually shakes the stance we have taken so far that our debt levels may be high—the government’s in particular—but is being internally financed. The possibility now is that this component will increase as we gradually draw in more such funds. Ideally the concentration should be on FDI, but quite a few of our policies relating to FDI in retail, insurance and pensions are still stuck in an intellectual imbroglio. The other step taken by RBI in allowing more scope for ECBs is commendable but leads to an increase in our external debt, which is now well above our forex reserves at over $350 billion. Therefore, while we do need to have proactive policies to counter the CAD, which is the only way out, these other considerations, should be kept in mind as we go along. Also, this dependency does tend to make policies rather skewed towards such investment in order not to offend such flows. To that extent, the government loses some degrees of freedom when it comes to policy formulation. Last year, the announcement on GAAR had a severe backlash with an outflow of dollars leading to the rupee taking a major hit, which was reversed only after clarifications were made and the policy was withdrawn to be deferred for a later date. The CAD issue needs to be understood in the right perspective and we should not bark up the wrong tree for a solution. The situation is different from 1991-92 when the capital account existed only in the form of loans from governments and multilateral agencies. While policies relating to capital flows should be revised and liberalised, the downside risks need to also be kept in mind. This also means that we need not seriously consider capital account convertibility for some more time.

There's very little for everyone: DNA 2nd March 2013

Individual households have a reason to be aggrieved as there were hopes that the tax slabs would be altered and that their savings under Section 80C would be enlarged so that they could channelise more funds into these instruments. This is more so on account of high inflation which has dented both purchasing power and saving ability. With little being done on these ends, there will be a modicum of dissatisfaction. The FM, however, has been quite open in saying they cannot give away much, given the fiscal stringency being faced.
Corporates would have a mixed reaction to the Budget. Tax rates have been changed at the margin for some commodities and there are some sops on investment allowance, which should help. But they would be wary of the government’s tendency to cut back on project expenditure in the past to balance the Budget. This could happen again in case there is slippage which is not good because it holds back their own investment in the form of incomplete projects which are being serviced. Therefore, there would be some uncertainty here.
Capital market investors are better-off with the STT being reduced and greater role of the FIIs in this space. SMEs, too, would find this market friendlier. But the absence of any other benefit for investors except for the continuation of the RGESS, which of course will not be bringing in large quantum of funds, has not quite encouraged the market, which fell around 300 points on this score on the Budget day. In fact, the cautious note of the Budget had signalled the downtrend in the Sensex and the absence of any significant benefit exacerbated the pace of decline.However, the higher inflow of FIIs on account of the easing of administrative blockages would probably help at the margin

Little to cheer or fret about: 1st March 2013: Free Press Journal

Given the feelers that were sent by the government before 28th February, the Budget should have been considered to be a non-event. However, given our tendency to hype such occasions, a lot was expected from the FM today with some even expecting it to be a game changer, which is the term now in vogue. It is not surprising that one could have ended up feeling disappointed to a large extent as aspirations have not been met. The market has definitely not taken positively to the content as seen by a fall of nearly 300 points in the Sensex. But we need to be realistic when judging the budget and the situation in which it was presented.

Let us look at households. With inflation around 10%, logically an increase in the exemption limit was called for. In fact, this should be automatic as individuals should be compensated for inflation or else price rise cuts into one’s consumption and savings. However, the Budget helps people out in one income bracket, which makes the move look half hearted. Therefore, individuals have reason to be disappointed. Also the so called thrust on savings is more an extension of the existing schemes. There is some talk on having inflation indexed deposits or bonds, which though sound interesting, may not be attractive especially since there is also a downside, which savers would not like to accept.

How about the market? There are several measures which would enthuse players in this segment, especially foreign investors. FIIs in the forex derivative segment will provide a further boost to a growing market. But at the individual level, the restoration of the infra tax bonds would have helped. In fact, given the problem of falling financial savings, it was very much expected that the budget would have provided incentives through higher limits for tax emption for savings in deposits, insurance, provident funds etc. In the absence of this mention, households have reason to feel let down considering that there is no guarantee that inflation will come down. So both ways, this constituency has reason to feel let down. The reduction in STT is beneficial but is unlikely to turn the tide for the stock market.

How about industry? The government has fairly comprehensive plans to speed up spending in areas of social development and infrastructure. This sounds good for the related industries. With more IDFs coming up and IIFCL playing a larger role in the debt market, one can expect movement in the infrastructure space. This in turn should help connected industries such as steel, cement, electric cables, glass and so on to grow when conditions are otherwise unstable. Add to this the sops given on interest on housing loans, and the overall impact would be positive for the housing and construction segments. The only apprehension is that in case there are threats of fiscal slippage along the way, the FM would cut back on such expenditure. Last year, the FM has cut back on capital expenditure around 18% as revenue expenditure got out of range. This has affected a number of projects in the private sector too. Therefore, while the present budget does have sound plans for the year in terms of government expenditure, one should look at it with caution.

 

 

 

 

 

 

So how can we rate this Budget? If one were not too optimistic the budget is a reasonable one that does not promise too much and channels funds in priority areas. It does not stoop to populism as was suspected by some on account of the oncoming elections. True there are allocations on subsidies and the NREGA programme, but appear to be within limits and cannot really be questioned as governments have to look at the concerns of the poor. The projections of income are realistic though the growth assumption made is the only one that can be questioned. It is based on growth of upwards of 6.5% for FY14 and the entire edifice will get shaken in case it does not materialize. Otherwise, it is a convincing document that moves along cautiously – reminding us constantly that fiscal prudence is our primary goal which will be adhered to at any cost-even if it means pruning project expenditure at the end of the day, if so warranted.

Fiscal deficit target on expected lines: Business Standard March 1 2013

The projected fiscal deficit for the financial year 2014 at 4.8 per cent is more on the expected lines though it will need to be seen if the revenue collections would be according to schedule. The resulting net borrowing programme may not be a major concern for liquidity as it is around Rs 20,000 crore more than last year and it can be absorbed in the system.

There is no fear of any crowding out of private investment by the scale of government borrowing. But a lot will depend on how the Reserve Bank of India views inflation.

It is intriguing that the Budget still talks of raising Rs 20,000 through the MSS (market stabilisation scheme) bonds, indicating that a surplus of foreign funds is being expected, which will be good news if it does materialise given our current account deficit problems.

Finance Minister P Chidambaram has worked on a relatively higher growth rate of between 6.5 and seven per cent. This will determine largely whether or not the revenue targets are met.

Otherwise, the Budget looks fairly conservative and prudent with the expenditures too being in the appropriate channels. The subsidy bill too will not throw any surprise as we already have in place a policy of fuel prices.

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