India's Fiscal Deficit may surge to 7.9% in FY 2021

Fiscal deficit may surge to 7.9% of GDP in FY 2021: SBI Research

With already high levels of government spending and decline in tax revenue receipts from GST and corporate taxes, the government is in a tight fiscal crunch. Narendra Modi led NDA government has failed to keep the fiscal deficit within the target limits for two consecutive years. 

Further the nation wide lockdown imposed in Mar 2020 has been extended 4 times till now. With already grappling economic slowdown due to Covid 19, the nationwide lockdown has further taken away jobs and has led to a massive fall in economic output. With declining profits and negative cash flows major companies have imposed paycuts which has reduced the income of the wage earners and also the government was forced to give massive tax reliefs to India Inc. 

With the government's Rs 20 lakh crore stimulus package, the country's fiscal deficit is likely to be more than double to 7.9 per cent in the current financial year, according to an SBI research report.

The report had earlier estimated the fiscal deficit to be 3.5 per cent of GDP this fiscal.

The government has announced a cumulative package of Rs 20 lakh crore, which is nearly 10 per cent of GDP to provide relief to various segments of the coronavirus-hit economy.

"After taking into account cash outflow of these measures as well as the previous and the recent excise duty hike and DA freeze (amounting to around 0.8 per cent of GDP), we now revise our baseline fiscal deficit (excluding extra budgetary resources (EBR)) to 7.9 per cent of the revised GDP in FY21 from 3.5 per cent earlier, owing to lower revenues and higher expenditure against the backdrop of COVID-19 pandemic," - SBI Research Report 

The government's Rs 20 lakh crore fiscal package includes Rs 1.7 lakh crore of fiscal stimulus announced in the first phase, Rs 5.6 lakh crore stimulus provided through various monetary policy measures including LTRO, TLTRO and Rs 5.94 lakh crore through the second phase, implying Rs 6.70 lakh crore package is still to be announced.

"The cumulative actual fiscal impact is only around Rs 1.14 lakh crores or 0.6 per cent of GDP," the report said.

Finance Ministry has announced an additional borrowing of around Rs 4.2 lakh crore or 2.1 per cent of GDP.

With higher deficit, the issue of a sustainable debt limit arises. The government debt as a percentage of GDP has been on a rising trend since FY11. The above figure clearly shows that India's debt to GDP ratio has been on a rise since 2011.

In the last eight years, government debt has risen from 62 per cent in FY11 to 66 per cent in FY19. During the same time period interest rate (repo rate) has declined from as high as 8.5 per cent to as low as 6 per 

In FY20, the repo rate was reduced further to 4.4 per cent. "This raises two related questions: how much government debt can India sustain? Does the decline in nominal interest rates following the possible financial crisis originating due to COVID-19 mean that the government can safely borrow more?"

Empirical evidence shows hat if the difference between interest rate and nominal growth rate is negative then there is no level of debt which is unsustainable, that is the government can borrow easily.

Only if the differential becomes positive then the question about maximum sustainable debt exists.

The main question is how will this debt be financed. India needs to give growth a major boost in order to maintain debt at a sustainable level. With surging NPA's, India's financial sector outlook also appears to be very gloomy. So there is no chance of borrowing from the PSB's. It has to be financed either by RBI or by external borrowing from IMF and Asian Development Bank. 

Thank You

Written by - Mr. Souvik Dey, Certified Fundamental Analyst and Investment Advisor, NISM 

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