India Budget Fiscal Deficit GDP
India Budget Fiscal Deficit GDPReuters File

The Indian government may relax its fiscal deficit target of 3.5 percent of the GDP for FY2017 to give itself enough legroom to spend, given its commitments on the one rank, one pension (OROP) scheme, the recommendations of the 7th Central Pay Commission and the need to fill in for low private sector capital expenditure.

"The consumption stimulus (OROP and 7th Pay Commission) and investment stimulus (with private sector capex is yet to recover) are expected to result in higher spends...we expect the FM to target a fiscal deficit of 3.7% for FY17 and budget for a gradual reduction in fiscal deficit per annum to 2.5% by FY19," said Kotak Securities in its pre-budget analysis on Thursday.

Finance Minister Arun Jaitley will be presenting the Narendra Modi government's second full-fledged budget (Budget 2016) on Feb.29, three days after the Railway Budget.

The implementation of the OROP scheme would entail an annual outgo of Rs 7,500 crore, while the 7th Central Pay Commission proposals will drill a Rs 1.02 lakh crore hole into the government's exchequer in FY2017.

The budget will be presented amid weak global growth projection for 2016 by the World Bank and the International Monetary Fund, mainly due to the fall in crude oil and commodity prices that have hammered the economies of many countries.

Net oil importers, such as India, have also been affected because of the cascading effect, notwithstanding the windfall arising of crude prices at record lows. India registered its 14th straight month of decline in merchandise exports.

The debate on whether to stick to the fiscal consolidation path or keep it flexible has seen a divide down the middle among economists and experts.

HSBC view

HSBC is also of the view that the government is likely to relax its earlier target of 3.5 percent for FY2017 to accomodate higher expenditure, while flagging off the consequences. 

"We believe the government, facing mounting spending pressures such as a higher wage bill, may choose to sign up for a wider deficit of 3.8% of GDP (in the 3.6% to 3.9% range). The implications are noteworthy. The net impact on growth, although positive in the short term, could be uncertain over time, as a higher fiscal impulse could be met with some degree of 'crowding out,'" said Pranjul Bhandari, Chief India Economist, HSBC, in her note on Thursday.

Ex-RBI governor Bimal Jalan advocates "range"

In an interview to business news channel CNBC-TV18 on Feb.16, former RBI governor and currently chairman of the government's Expenditure Management Commission (EMC), Bimal Jalan, said that instead of sticking to a pre-determined deficit target, it would suffice if the deficit is maintained "within a range."

Reuters poll 

Last month, a Reuters poll of 30 economists revealed that half of them were of the opinion that Jaitley could tweak the fiscal deficit targets to accommodate growth.

While a higher fiscal deficit would enable the government to spend more and spur growth, the flip side of such an approach is that it will lead to a rise in interest rates and inflation.

Benefits of low fiscal deficit

If the fiscal deficit is kept at lower levels, it will translate into lesser borrowing by the government, enabling the private sector to raise more money at lower interest rates, besides keeping inflation under check.

Retail inflation in India rose to a 17-month high of 5.68 percent last month, but was within the central bank's target of 6 percent by January 2016.

(10 lakh=1 million, 100 crore=1 billion)