No doubt the market was expecting a larger deficit/GDP than 5.5% announced in the IB. But it was also being assumed that the finance minister would restrict a rise beyond 6.2%, the level that was announced under the revised estimates for 2008-09. The hope being that the government could be rolling back some of the tax reductions announced under the third fiscal stimulus and also target higher revenues under the 3-G auction and disinvestments. Even the Economic Survey had pointed to a likely target of Rs 25,000 crore per year.
While the fears on the expenditure side materialised, the hopes on the revenue side were dashed. Only a princely sum of Rs 1,120 crore was targeted under disinvestment even as the 3-G auctions were assumed to net in Rs 15,000 crore above expectations in the IB. The worrying feature however is the tax revenue side where the government appears to be significantly on a back-foot. The net tax revenues are now being estimated at Rs 23,378 crore lesser than the IB estimates with severe hits being assumed under the income taxes and customs collections.
Tax targets have been lowered from IB as the third stimulus package of cut in services and excise tax by 2% was not rolled back. Income tax targets were also lower by Rs 22,500 crore due to abolition of FBT, increase in exemption limits and rollback of surcharge of 10%.
The consequence of all this is an increase in the fiscal deficit to 6.8% of GDP, a number not many were expecting. The offshoot: gross borrowing programme of the Centre was up almost Rs 90,000 crore over the IB levels. Anyways, the bond market had been under severe pressure of supplies and this is only likely to aggravate. The challenge for the RBI would be to maintain a lid on the long-end yields, or else significantly higher yields could frustrate the smooth transmission of monetary policy and nip Indias green shoots of recovery. The way out could be larger OMO auctions.
The high fiscal deficit and a consequent rise in the debt-GDP also opens up some risks to foreign capital flows as India could come under some amount of sovereign rating watch. And more importantly, the market has been frustrated by the lack of any reforms measures in the Budget such as fuel price reforms or a roadmap to fiscal consolidation and of course plans for privatization/disinvestment. The structural lacuna of Indias Budget come forth with revenue generation exposed to vagaries of growth and it could be a few years before the revenue buoyancy of the 2007-08 may be repeated. On the other hand, it might be difficult to bring down non-productive expenditures such as interest payments in coming years, given the increase in the debt servicing burden.