Budget 2018: Expenditure quality deteriorates, tilts towards current spending

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Published: February 2, 2018 5:03:51 AM

Budget 2018: Most markets participants were focussed primarily on long-term capital gains tax. We saw a significant price correction in small and mid-cap stocks in the run-up to the Budget 2018.

Budget 2018: The grandfathering of gains till January 31, 2018, makes no difference to sale or purchase before or after the Budget 2018.Budget 2018: The grandfathering of gains till January 31, 2018, makes no difference to sale or purchase before or after the Budget 2018.

Budget 2018: As Widely expected and, one must say, quite kindly accepted, the government overshot its fiscal deficit target in FY18, scaling it up to 3.5% from 3.2% of GDP. Revenues declined while spending rose. In particular, it is current spending that exceeded a planned 10.8% at 11.6% of GDP, while the capex out-turn actually lowered 1.6% of GDP against the 1.8% budgeted.  Moreover, the government will also moderate its pace of fiscal consolidation next year, targeting a deficit of 3.3% of GDP in FY19 against the recommended 3%. Spending quality has worsened with pronounced tilt towards current expenditures. Against expenditure shares distributed as 85.6% (current) and 14.4% (capital) in FY18, the revised numbers show a much lower proportion of capital spending at 12.3%.

In FY19 too, capital expenditure shares in overall government spending is projected at similar levels, confirming the familiar bend towards current spending as elections near. This expenditure composition is directionally the reverse of that laid out under the medium-term fiscal strategy — to achieve an 85:15 current-capital expenditure distribution by 2019-20. Apart from the fiscal deficit, other key metrics show marked deterioration as well. The effective revenue deficit, which strips out grants for capital assets’ creation and is the government’s favoured measure, more than doubles to 1.5% of GDP in the revised FY18 out-turn against a budgeted 0.7%. Fiscal indicators are projected to improve somewhat in FY19: the primary deficit, which strips out interest payments from the fiscal deficit and stands unchanged at 0.4% of GDP in FY18 and FY17, is projected to marginally fall to 0.3% of GDP.

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The effective revenue deficit will improve to 1.2% of GDP, but higher than 1% of GDP two years ago (FY17). Nominal GDP growth assumption of 11.5% in Budget 2018-19 is credible. The government may even gain from higher inflation if oil prices continue their upward climb and the increases are passed on — a Rs 249.3 billion provision for petroleum subsidy, only slightly higher than the revised Rs 245  billion in FY18, suggests so. On this nominal GDP assumption, net tax revenue growth of 16.6% in FY19 indicates a tax buoyancy of 1.45%. This is almost similar to that achieved in FY18 if we assume somewhat higher nominal GDP (say, 10.3-10.5%) growth than CSO’s projected 9.5% for 2017-18.  As both GDP growth and inflation are expected to pick up next year, this is not unreasonable. What is not is the expenditure side. Here, total expenditure growth is assumed at 10.1% over revised FY18 figures and compares with a realised 12.3% growth for FY18, which is almost double the 6.6% budgeted a year ago.

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Within this, current expenditure growth of 10.2% occurs on a high 15% growth base whereas ‘good’ spending or capex is a mere 9.9% over a -3.9% contraction  in FY18. Considering the whole argument for straying the fiscal deficit path was based upon supporting growth and private investments, such a spending mix certainly does not meet that goal! This is nothing but a typical election Budget and does not distinguish this government from any previous. It will not cut any ice with the bond market where yields jumped 20 basis points in response. Potentially, this could jeopardise macroeconomic stability ahead and puts the government under constant scrutiny.

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