At a time when the economy is slowing, it is only to be expected that tax collections, too, will slow.
At 6.1% year-on-year, the growth in India’s nominal GDP in Q2FY20 is the lowest in more than 16 years. While the slowdown has, no doubt, been exaggerated by the extraordinarily low inflation, even in real terms, a 4.5% y-o-y growth in GDP is the lowest since Q4FY13. In fact, what is worrying is that nominal GDP has grown by just 6.1% y-o-y in a quarter when nominal government spending jumped 18.9% y-o-y, the biggest increase in 30 quarters. With government spending likely to be constrained—due to poor tax collections—this ability to spend more will reduce; since the SC judgment on AGR revenues means telcos will pay around Rs 90,000 crore within 90 days, though, the government’s finances will look a bit better.
Given how the government’s ability to spend will be seriously constrained by the subdued tax collections, other sections of the economy need to pull their weight if the nominal growth is to pick up meaningfully. Currently, with a real GDP growth of 4.8% y-o-y in H1, it is hard to see the economy clocking in much more than 5% in FY20. And, that, is with a hugely helpful base because GDP in H2FY19 grew at just 6.2% y-o-y.
The big worry now is the fisc. Unless there is a big jump in nominal GDP growth in the second half—the budget has pencilled in a 12% growth in nominal GDP for FY20 while the number is more likely to be 8-8.5%—the fiscal deficit ratio will take a real knock. Thanks to the government using the wrong base numbers, the tax projections were quite unrealistic to begin with. Now, they look even worse.
At a time when the economy is slowing, it is only to be expected that tax collections, too, will slow. And, since the denominator—nominal GDP—will be lower, the deficit-to-GDP will go up even more. The fiscal deficit for the April-October period—Rs 7.2 lakh crore—doesn’t look too good at 102% of GDP. To be sure, much of the increase in the deficit is because the government has spent more—Rs 16.55 lakh crore versus `14.55 lakh crore in the corresponding period of 2018-19. At the same time, it is also true that the tax mop-up this year has been virtually flat at Rs 10.52 lakh crore versus Rs 10.39 lakh crore in the April-October 2018 period.
The government believes that the economy will revive in the second half, but so far, there is very little to suggest a meaningful pick-up. Indeed, the output of the core sector contracted 5.8% y-o-y in October—slightly more than it did in September—suggesting the busy season hasn’t got off to a great start. Demand for cars was subdued in the festive month and sales were flat, though this was better if assessed against the backdrop of a continuous fall in monthly sales for about a year. However, sales of two-wheelers actually fell 14% y-o-y, suggesting poor rural demand. Also, sales of commercial vehicles were weak, crashing by 23% y-o-y. Going by car sales and loan data, November doesn’t seem to have been very much better. Consumers are clearly not willing to spend, especially on big ticket items such as homes. The fact that there is no quick fix for the compression in credit growth will, in fact, ensure that even Q3 growth is muted.
One big reason why consumption demand has tapered off is rural stress; with prices of agri goods collapsing, farm incomes have been badly hurt. The agricultural GVA in the September quarter grew at just 2.1% y-o-y, the slowest in 14 quarters save one. Unless many more jobs are created, it is hard to see consumption getting a boost. But, it is even harder to visualise where the jobs are going to come from since the manufacturing sector is in a slump—manufacturing GVA contracted 1% in the September quarter. The services sector is in big trouble since the financials of a couple of large telcom players are fragile following adverse regulation. These companies are laying off people in large numbers.
Also, gross fixed capital formation, an indicator of capex, barely grew in the September quarter—it rose 1% y-o-y, the slowest in 19 quarters. That suggests not too much fresh capacity is being added, which is not surprising since there is a fair bit spare capacity to be utilised. Also, since several business houses have bought stressed assets via the IBC route, using up some of their financial resources, it is unlikely they will undertake greenfield expansion. But, the government needs to worry more about existing businesses.
The biggest challenge today is to unclog credit flows to industry—small and large. This looks virtually impossible because banks have turned risk averse and are staying cautious in what is an extremely tough environment; 2019 has seen more than 3,300 companies being downgraded so far. Incremental lending between April and October is up barely by 1%; in the fortnight to November 11, loan growth slumped to a two-year low of 7.9% y-o-y. Banks can’t be blamed for their approach because there are few businesses worth lending to. Meanwhile, lending by NBFCs has slowed sharply over the past year—34% y-o-y in Q2FY20—with several of them in financial trouble. Indeed, whether the Reserve Bank of India cuts repo rates or not is less important now because banks have become extremely cautious. Also, with credit flows tight—despite a `2 lakh crore surplus liquidity—more companies are likely to default on loan obligations, which, in turn, means rising loan losses. To be sure, there is no systemic risk, but there is the danger of many small and mid-sized businesses closing down, leading to more job losses.