India - Falling short of expectations

The government’s second stimulus package has failed to live up to expectations. The first package, announced in early December, was estimated to cost Rs.30,000 crore including an additional plan expenditure of Rs.20,000 crore to be utilised in the remaining part of the year on critical rural infrastructure and social security schemes. This time no provision has been made for additional plan expenditure. The government has once again depended heavily on the Reserve Bank to enhance liquidity and facilitate the flow of credit at cheaper rates. The total anticipated revenue forgone by way of stimulus packages is around Rs.40,000 crore. The whole effort has been constrained by the absence of sufficient fiscal space to deliver a more robust stimulus to the economy. In a sense, this is the price to be paid for not managing government finances during the recent high growth years to leave enough headroom for manoeuvre in difficult times. Through an exceptionally large supplementary budget in October 2008, the government increased the size of the fiscal deficit without substantially stepping up productive expenditure. The combined deficit of the Centre and the States is expected to be around 10 per cent by March 31, 2009. Further, a decelerating economy has resulted in lower tax revenues. The emphasis in the second stimulus package is on tweaking rules and procedures to address the concerns of specific sectors. Rules regarding external commercial borrowings have been substantially relaxed. The limit for foreign institutional investment in rupee denominated corporate bonds has been increased to $15 billion from $6 billion. Several sops have been announced for exporters facing a major slowdown.

Some of these measures are welcome but their efficacy in a counter cyclical package is limited. Foreign investors who have been fleeing equity markets may not be enamoured of debt instruments, especially when the corporate bond market is in a nascent stage of development. External commercial borrowings tend to increase the level of short-term external debt and overseas lenders continue to be risk averse. The reliance on monetary measures, understandable in a situation where the fiscal position is under stress, is unlikely to produce immediate results. The reductions in the repo rates and the CRR will enhance liquidity and exert a downward pressure on interest rates. But the key issue is credit delivery, not credit availability. The central bank has admitted that risk management is particularly difficult in an environment of uncertainty and downturn. However, with the government ruling out further fiscal measures this year, the reliance will be on monetary policy.