Tuesday's Talking Points
Fiscal Deficit – A Key Area of the Government’s Focus!
What’s the Point?
Recently, it was reported that India’s Central Government’s fiscal deficit is projected to be lower than the Budgeted Estimate of 4.9% of GDP, due to increased tax collections and contraction in capital expenditure (potentially driven by the general elections and monsoons). On the economy front, capex slowdown from the government has been offset somewhat by increase in capital expenditure by listed corporates. Government expenditure slowdown is potentially one of the key reasons behind the slowdown in India’s growth, but could reverse for the rest of the year. With India’s fiscal deficit for 7MFY25 standing at a lower level than 7MFY24 – ₹7.51 lakh crore versus ₹8.04 lakh crore, this aligns well with the Government’s focus on maintaining economic growth, while acting prudently to bring down fiscal deficit below 4.5% by FY26.
Numbers in Perspective
Source: Bloomberg, ICICI Securities (I-Sec); *BE: Budgeted Estimate, **Pace in FY25 being an aberration in trend, $TTM: Trailing Twelve Month
Fiscal Consolidation – A Long-Term Priority for India
The Indian Government has aimed to reduce the Government's fiscal deficit through a mix of spending reforms and revenue-enhancement strategies to ensure long-term economic stability. With a significantly lower budgeted estimate of 4.9% for FY25 vs 5.6% for FY24, there has been ample room created for the stimulation of corporate investment – Chart 2 shows that listed corporates capex stands 12.8% higher than Central Government Capex in FY25 (till Sep-24), as the Government aims to reduce its gross and net borrowings.
Elements aiding India’s Lower Fiscal Deficit in FY25
- Modest Increase in Receipts: During 7MFY25, the gross tax revenues recorded a growth of 10.8% vis-à-vis a growth of 16.1% in the corresponding period of the previous year. This was primarily driven by robust growth in direct taxes like income tax (20.2%) and indirect taxes like GST (11%) and custom duties (6.2%).
- Lower Expenditure: Government spending in 7MFY25 has been slower than the previous year, being only 51.3% of total budgeted expenditure by October versus 53.2% last year. Revenue expenditure growth grew at a faster clip – 8% y-o-y in 7MFY25 versus 6.5% in 7MFY24, while capital expenditure contracted by 15.4% in 7MFY25. The outgo on subsidies increased by 7.3% (y-o-y) in 7MFY25, driven by 26.5% growth in food subsidy outgo, while fertiliser subsidy outgo contracted by 28%, partly owing to decline in international fertiliser prices.
Contraction in Capital Expenditure: Reserve Bank of India (RBI) has partly attributed this to the general elections during Q1FY25 along with the impact of heavy monsoon rains during the months of July and August. A simple analysis of the monthly accounts from the Controller General of Accounts suggests that to meet the budgeted expenditure, the Central Government will have to spend at a significantly faster rate – 14.5% (y-o-y) higher for the rest of the FY25.
Table: Math on Central Government Spending
Source: Controller General of Accounts (CGA); *Full-year Budget less Actual Spending (October 2024 onwards)
While a flat or lower expenditure optically reduces India’s fiscal deficit, it could act as a deterrent to the economic growth. With the Government prioritizing growth, an expected reversal in capital expenditure trends for the rest of the year could be great news, as it would strengthen the economic growth and corporate revenues. As matter of fact, capital expenditure, which was down by 35% (y-o-y) in Q1FY25, has already rebounded in Q2FY25 by 10.3%.
Linkage of Fiscal Deficit and Economic Growth
While the linkage between fiscal deficit and growth depends on various factors like the size and composition of the deficit, the state of the economy, and the policy framework, it has to be kept within sustainable limits to avoid debt burden. More importantly, fiscal discipline has to be coordinated with monetary policy to avoid inflation and ensure that the overall macroeconomic policy stance is supportive of growth. Against this backdrop, RBI in its Monetary Policy Committee Meeting on December 06, 2024, reduced its Cash Reserve Ratio (CRR) by 50 bps to 4%, which is expected to inject liquidity of ~₹1.16 lakh crore into the system, reducing the costs for banks, and providing a much-needed growth in credit offtake, whose y-o-y growth dipped by 8.7 percentage points since the start of May 2024.
Further to that RBI noted that with recent high frequency indicators indicating a pickup in economic activity driven by festive and rural demand, growth has bottomed out in Q2FY25. Going ahead, it expects that growth will be aided by good kharif crop production, normalisation of mining and power demand post monsoon, higher government spending and likely improvement in investment activity.
By focusing on capital expenditure, revenue reforms, privatization, technological efficiency, and a well-coordinated fiscal and monetary policy, India is attempting to adopt a balanced approach, which would help in ensuring long-term economic stability through sound macro-fundamentals, while supporting inclusive growth and modernization.
Sources: Bloomberg, I-Sec, Kotak Institutional Equities, CGA, RBI, and other publicly available information
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