The Union Budget for FY 2018 will introduce several changes, such as the merger of the rail and union budgets; the discontinuation of the classification of expenditure as plan and non-plan; the likely shift to targeting the fiscal deficit as a range instead of a point estimate; and the possible quantification of expected indirect tax revenues under the goods and services tax (GST).
Moreover, the budget will be presented at a time when the economy is adjusting to the changes engendered by the note ban. With limited demand growth, moderate capacity utilisation and stressed balance sheets of various corporates, any meaningful recovery in private sector investments is unlikely in the next 1-2 quarters. Therefore, we expect the budget to focus on boosting investment and consumer sentiment and reviving economic activity. However, the need to demonstrate continued fiscal consolidation would impose a constraint on expansionary policies, even as the outlook for monetary policy remains hawkish.
We expect the government to significantly expand the budgetary allocation towards infrastructure, particularly affordable housing, roads, renewable energy and railways, and permit CPSEs to raise additional funds through market borrowings. Such spending would provide respite to the depleted order books of capital goods companies, contractors and developers.
Moreover, the budget should include substantial allocations for recapitalising public sector banks, to strengthen their balance sheets and enable them to support an economic recovery. We also expect augmented outlays for social sectors, such as food subsidy, NREGA, insurance schemes and welfare pensions, as well as on promoting digital transactions.
The note ban would generate some one-time revenues in the near term, and complement the GST in widening the tax base over the medium term, leading to the expectation of an imminent reduction in corporate tax rates. In ICRA’s view, the augmentation of the revenue base is likely to be directed toward infrastructure and social spending, and any significant reduction in the corporate tax rate would be accompanied by lowering of exemptions.
A reduction in the corporate tax rate would dampen the growth of the government's tax collections, as well as the devolution of central taxes to the State Governments. This would compound the revenue uncertainty associated with the migration from the current indirect tax regime to the GST, although the GoI would compensate the states’ losses related to this transition for five years. Nevertheless, it may be prudent to either defer a sizeable reduction in corporate taxes, or simultaneously pare exemptions, to protect the size of the corporate tax base. This would assuage the fears of the State Governments and allow them to enhance capital spending. However, modest income tax rebates or subventions to the lower income groups could be provided, to boost sentiment.
With the implementation of the GST likely by September 2017, we expect a few indirect tax changes, other than an increase in the service tax rate to align it closer to the GST, simplification and removal of inverted duty structures, and anti dumping duty on segments adversely affected by cheaper imports.
ICRA expects the government to budget a fiscal deficit range for FY2018 between 3 percent and 3.5 percent of the GDP, which translates to Rs. 5.1-5.9 trillion in absolute terms, assuming nominal GDP growth of 11.2 percent. This in turn suggests that net dated borrowings could rise to Rs. 4.3-5.0 trillion in FY2018 from Rs. 4.1 lakh crore in FY 2017. As a result, bond yields are unlikely to fall further, particularly given the limited scope for further monetary easing by the RBI and the spectre of rising interest rates in the US.
(The writer is Principal Economist, ICRA Limited)
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Updated Date: Jan 21, 2017 12:21:00 IST