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The Union Budget to be presented this week has to contend with numerous sources of uncertainty such as the possible introduction of a new fiscal responsibility framework, introduction of the goods and services tax, agreement on revenue sharing (modalities of which are still fluid) and most importantly ascertaining whether the economy needs a significant growth stimulus be it through the consumption avenue, investment spending or some combination of both.
In our opinion, there is a case for breaching the Government’s medium term fiscal deficit target of 3% of GDP for FY2018. The global backdrop of Government intervention and the slowdown in the domestic economy are the key considerations for such a stance.
Our key thoughts regarding the various facets of the fiscal deficit are detailed as follows:
Rationalization of corporate tax rate: Reduction in the corporate tax rate along with exemptions should be brought in to revive a tepid private sector capex cycle.
Scope to tinker the personal income tax for the lowest income bracket: Our study of the existing slab and rate structures imply that a change in the lowest tax slab by say INR 50000 would result in revenues forgone to the tune of ~INR 160 bn. In our opinion this is not a formidable loss and can easily be implemented.
Incidence of taxation: Since indirect taxes are incident uniformly across the population, direct taxes are more equitable. We should ideally strive for higher share of direct taxes as compared to indirect.
The tenets of simplicity and convenience of payment are likely to be important for implementation of taxes such as the GST. Onerous regulatory and compliance objectives should not derail economic activity while it’s being implemented.
Focus to enhance stable tax revenue : We have always advocated that the primacy of stable tax revenues should be emphasized as opposed to one off sources of revenues such as resource and stake sales. In this regard, the recent demonetization exercise and the introduction of GST should help in improving the tax base.
Optimize the quality of fiscal spend : We continue to believe that the quality of our fiscal mainly reflected through the mix of expenditure between capital and revenue bears careful watching.
We note that the consolidated deficit of the states has risen steadily from 2.2% of GDP in FY14 to ~3% currently. This is in spite of the substantial transfers from the Center under the 14th Financial Commission. The high consolidated fiscal deficit is again why we proffer no higher a number than 3.2% for the Central Fiscal Deficit in FY18.
Regarding market borrowing, we believe that the net borrowing could in effect be ~INR 3.8 tn to INR 4.7 tn under various scenarios. We conclude that if the proportion of deficit funded through market borrowings is reduced in favour of higher small savings, then net borrowings could be significantly lower even with a breach of the fiscal deficit target.
Please refer to the attached document for a detailed report.
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