India’s beleaguered government avoided bold reforms in its annual budget on Friday, opting for cautious steps to shore up growth and modest targets to rein in a bloated deficit after a series of political setbacks exposed its vulnerability.
Government bond yields leapt to their highest in more than 10 weeks, reflecting investors’ disappointment with Finance Minister Pranab Mukherjee’s half-hearted attack on the worst deficit among the emerging-market “BRICS”.
“I don’t see any populist schemes, but this is not a reformist budget either, it is a status quo budget,” said A. Prasanna, an economist at ICICI Securities Primary Dealership, as Mukherjee wound up his annual speech to a rowdy parliament.
“I think the political compulsions made them decide that the best way is to play it safe,” Prasanna added.
India’s Congress party-led coalition government has been battered by a string of corruption scandals and other setbacks that have curtailed its ability to implement reforms needed to spur flagging economic growth and rein in spending.
Earlier this month, the Congress party was trounced in crucial state elections. Then, this week, it faced a rebellion within its own ranks over a proposed rise in rail fares, which fanned speculation that the fragile coalition might fall apart and trigger a snap general election.
Announcing an increase in services and excise taxes, Mukherjee said that, like Shakespeare’s Hamlet, he had to “be cruel only to be kind” in order to cut the fiscal deficit.
He did not reduce subsidies for petroleum products, which have weighed heavily on government finances as oil prices rose, although Prime Minister Manmohan Singh said after the budget speech that the government would eventually need to “bite the bullet” and raise prices even if it irked its coalition allies.
Widest gap of the BRICS
The finance minister set a fiscal deficit target of 5.1 percent of GDP for the fiscal year that begins in April, down from an expected 5.9 percent in 2011/12.
The current year’s deficit ended up far above the 4.6 percent originally targeted by the government in its budget a year ago, as economic growth slowed and spending ballooned.
Even if it manages to cap its deficit at 5.1 percent, which several analysts doubted, India’s fiscal gap is wider than those of its BRICS peers: Brazil, Russia, China and South Africa. Its forecast deficit is more than four times Brazil’s estimated 2012 budget gap of 1.2 percent of output.
“We are disappointed with the budget because it assumes a relatively high 5.1 percent deficit in the 2012/13 fiscal year,” said Dariusz Kowalczyk, senior economist at Credit Agricole in Hong Kong.
Mukherjee said he expected the Indian economy to grow by 7.6 percent in fiscal 2012/13, up from 6.9 percent in the current year, its lowest rate since the global financial crisis of 2008.
At 3:00 p.m. (0930 GMT), India’s 10-year benchmark bond yield was at 8.42 percent, up 9 basis points from before the deficit estimate was released and its highest for two-and-a-half months.
“It’s more of a populist budget and there’s nothing exciting in it that can revive market sentiment,” said Taina Erajuuri, portfolio manager at FIM India in Helsinki.
“Foreign investors were anyway a little sceptical about any structural reforms in the budget after the (state) election results, and that fear has come true to a large extent.”
High oil prices have swollen India’s subsidy burden to roughly 2.5 percent of GDP, and Mukherjee called for reducing that to less than 2 percent in the new fiscal year.
However, Nomura said in a research note that, with no concrete measures to reduce expenditure on subsidies, it expected the government to overshoot its new target.
Mukherjee vowed to improve supply-side management of an economy that is plagued by power blackouts and poor roads due to a lack of investment and bureaucratic delays in projects.
He set a target of selling 300 billion rupees ($5.96 billion) worth of stakes in state companies in the next fiscal year, roughly in line with forecasts. However, India has raised just 139 billion rupees in the current fiscal year from stake sales, far below a budget target of 400 billion.
The backlash from a key coalition ally over this week’s proposal to raise railway fares for the first time in eight years has further eroded the government’s scope to make politically tough decisions such as raising diesel prices to ease the fiscal deficit.
“I had little expectation from the finance minister and he did not disappoint me,” said N.C. Saxena, a member of the National Advisory Council that advises the government. “Here’s a budget that is neither pro-poor nor pro-reforms.”
With federal elections set for 2014, the budget a year from now is expected to be laden with populist spending. Friday’s budget was thus viewed as a last opportunity for Singh’s government to roll back a yawning fiscal gap.
“He seems worried about the stability of the government more than trying to revive the economy. He has lost an opportunity to do so because next year’s budget, ahead of the general elections, will not allow him room for hard measures,” said Jagdish Shettighar, an economist with the main opposition Bharatiya Janata Party.