Non-event Budget leaves all the hard work for Subbarao

Those expecting Pranab Mukherjee's Budget 2012 to bring back the reforms agenda into the spotlight with some clear measures have gone back disappointed.

The Budget did nothing of the sort, and instead, will now be remembered for the devils in the fine print - the Vodafone effect, GAAR, the share premium tax on closely held companies, increase in service tax rates and several other horrors.

This, in effect means, the bulk of the job of administering that much-needed booster dose to investment and economic activity is back in the court of the Reserve Bank of India (RBI) governor Duvvuri Subbarao. The RBI will announce its annual policy for 2012-13 on April 17.

 Non-event Budget leaves all the hard work for Subbarao

With a number of tough tasks lined up before the RBI, all eyes will be on the 17 April policy

Clearly, Subbarao, who had some hopes from Pranab Mukherjee's 2012 edition of the Budget, would have to figure out how the growth and inflation balance can be best achieved, given that Mukherjee, in fact, has just made his task tougher.

Not only has the finance minister not delivered a milestone-based roadmap for fiscal consolidation, many have even started questioning whether the 5.1 percent fiscal deficit estimate for the financial year starting 1 April can be achieved, given crude oil price levels, subsidy compulsions and other imperatives.

Says Bharat Banka, head of Aditya Birla Private Equity: "This was more a transactional Budget. I see the fiscal deficit next year ending up at around 5.6-5.7 percent levels." Citi India's Rohini Malkani also estimates the fiscal deficit figure to eventually end up at around 5.5 percent, 40 basis points higher than Mukherjee's estimates.

All this makes life tougher for Subbarao. Consider the RBI governor's immediate post-Budget problems: after the hike in indirect taxes, and an inevitable fuel price hike to tackle under-recoveries, RBI will also have to deal with inflationary expectations. Analysts reckon a 2 percent spike in the inflation trajectory in FY13 owing to these two reasons alone. Says Motilal Oswal's Dipankar Mitra in his latest report: "Inflation management would become harder with the impact of higher indirect tax and the near inevitable rationalisation of fuel prices."

While most analysts have already pared their rate cut expectations owing to the weakening Budget math, the requirement of the hour to kick-start investments would be a deep cut in interest rates.

However, given the inflationary effects of the tax rates and fuel prices, that is unlikely to happen. Most analysts, therefore, have pegged rate cuts to anywhere between 50-100 basis points over the year, against a much more optimistic 150 basis point expectation before the Budget. (100 basis points = 1 percentage point.)

In fact, on the borrowing front too, the RBI will be under severe pressure to keep liquidity available, with the government's borrowing programme at Rs 5.7 lakh crore.

The first-half borrowing for FY13 (April-March) has already been announced at 3.7 lakh crore, which is 65 percent of the full year's target. "The liquidity tap needs to be kept on by RBI to accommodate the huge borrowing programme," says Mitra in the report, which underscores the fact that an "ineffective fiscal policy and an inactive reform engine" have raised the onus on RBI.

Motilal Oswal reckons a deep 125 bps cut in the cash reserve ratio (CRR) - the portion of deposits banks must park with the RBI - to enable more liquidity to flow into the system, together with open market operations (OMO) of Rs 1.8 lakh crore, will be announced to deal with liquidity drain due to forex interventions.

Money market players are, therefore, watching the RBI's moves keenly, and will be waiting for a signal in April from the central bank. Just a week before the Budget, RBI announced a sharp 75 basis points cut in CRR, releasing Rs 48,000 crore into the system to ease liquidity.

Another key task for the RBI would be to keep government's borrowing costs under control, given that short-term rates have firmed up significantly owing to the RBI's guidance and continued borrowing at the shorter end, points out the report.

Some unexpected customs duty cuts announced in the Budget on capital goods, together with uncertainty on foreign institutional investments and FDI fronts will also necessitate active exchange rate management by the RBI, says Mitra.

Concuring with the view that currency markets will remain choppy, Citi's Malkani says: "Trends in the currency are likely to remain volatile through 2012 and depend on both domestic and global factors. We expect the unit will oscillate around 50/dollar for the next twelve months."

Not an easy to-do list for an RBI governor with limited options in hand and a government which keeps insisting he must cut rates despite New Delhi not lending him even a semblance of a helping hand.

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Updated Date: Dec 20, 2014 09:25:58 IST