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India's growth to drop, fiscal deficit to widen

RBI report says revenue deficit increases by 75%; wants subsidies cut; industrial growth, exports down

India's economy will grow at six per cent in the current fiscal year (April 1997-March 1998), the Reserve Bank of India has declared. The lower growth as compared to the previous year's 7 per cent is due to slower industrial recovery and lower exports.

In its 'Report on Currency and Finance 1996-97', the Reserve Bank has also warned that the government will not meet its fiscal deficit target of 4.5 per cent of the gross domestic product during 1996-97.

Besides poor industrial growth, the other reason for not meeting the fiscal deficit is the whopping 75 per cent increase in the revenue deficit during the first half of 1997-98 to Rs 138.8 billion and the non-realisation of disinvestment proceeds.

The RBI has stated that although exports growth is lower than anticipated and there is a widening of the trade deficit which is causing concern, the current account deficit is expected to be around a 'well manageable' 1.5 per cent of GDP.

"In the area of government finances, developments on the expenditure front are expected to exert more pressure requiring the government to make efforts to reverse the deceleration in revenue growth and prioritise expenditure. Reduction of subsidies is of crucial importance in this context," the report said.

The Reserve Bank has has expressed hope of some improvement in the performance of infrastructure industries and possible increases in export demand during the latter half of the coming year. This would lead to a rise in manufacturing production. Interest rates, both short-term and long-term, have shown a noticeable decline, the report states.

The central bank has said the drop in revenue is reflected in the actual receipts, which grew only by 5.3 per cent in the first half this year as against a target of 17.1 per cent. Tax revenue during the period -- both direct and indirect -- declined in absolute terms by 1.5 per cent as against a 16.6 per cent growth envisaged in the budget.

To make matters worse, aggregate expenditure increased by 15.3 per cent as against 12.4 per cent during the same period last year. Consequently, the revenue deficit during the first half of 1997-98 stood at Rs 138.8 billion, 75 per cent higher than the the previous year.

Besides the weak revenue collection, even disinvestment has not met the target. The government had initially targetted mobilisation of Rs 48 billion through the disinvestment programme which was subsequently revised to Rs 70 billion. The slippage in revenue collection together with non-realisation of disinvestment proceeds has inevitably resulted in the widening of the fiscal deficit, which at the end of the first half (April-September 1997) stood at Rs 389.37 billion, amounting to 60 per cent of the target of Rs 654.54 billion for the whole of 1997-98.

The good news, however, is that during 1997-98, the government has completed most of its borrowing programme without the central bank's support. In fact, the RBI credit to the government remained negative at Rs 30.88 billion and Rs 35 billion during the second and third quarter, (up to November 21) respectively.

The RBI report states slow industrial recovery will this time not be compensated by the agricultural sector since the the agricultural production base, thanks to a good performance in 1996-97, is already very high.

However, there are expectations of a boost in the infrastructure sector, due to which the GDP growth is expected to be 6 per cent as against the 7 per cent forecast at the beginning of the year.

On the monetary and credit side, there has been a substantial increase in deposits in the recent period. The banking system, as a result has sufficient lendable resources and the financial sector is in a position to step up the flow of resources to enable productive activities to improve its performance.

"To sum up, the economic fundamentals continue to be strong with growth impulses being nurtured by a positive framework. Price stability has been the main gain so far; this should help improve India''s competitiveness, reduce economic hardships on the poor and promote growth," the report states.

The industrial sector registered a growth of only 4.7 per cent during the period April-August 1997 as compared to 11.2 per cent in the corresponding period last year. The report states that industrial production in the current year has exhibited mixed trends with some sectors doing slightly better than others.

According to provisional data, India's exports at $19.88 billion during the first seven months of the current financial year registered a growth rate of only 5.2 per cent as compared to 9.9 per cent during the corresponding period of the previous year. The deceleration is attributed to the fall in growth rate of primary products and world exports.

However, in April-October 1997, imports at $22.56 billion recorded a growth rate of 6.5 per cent (as against 6.4 per cent in the previous corresponding period) mainly on account of non-oil imports.

Consequently, the trade deficit widened to $2.67 billion in April-October 1997 ($2.27 billion). The export-import ratio, which is an indicator of the extent to which exports can finance imports, witnessed a marginal decline to 88.1 per cent from 89.3 per cent during the same period.

However, the report states that net capital flows are expected to be positive and even significant during 1997-98. During the first seven months of 1997-98, foreign direct investments were considerably at $2.05 billion as compared to $1.27 billion in the corresponding period of the previous year.

Portfolio investments were marginally lower at $1.85 billion and NRI deposits declined to $784 million (as against $2.14 billion last year) mainly on account of FCNRA outflows.

Foreign exchange reserves have increased to $29.435 billion, up $3.01 billion from March 1997. However, the depreciation of gold proved dear to the RBI whose gold reserves value fell from $4.05 billion to $3.71 billion.

Meanwhile, the Reserve Bank of India has also rejected the S S Tarapore-headed Capital Account Convertibility Committee's recommendation for an exchange rate band. The central bank has said that such a band "would be inappropriate on credibility grounds".

Says the report in its argument against the framing of such a band: "A band could be arrived at by constructing a panel of Real Effective Exchange Rate indicators, each representing adjustment of effective nominal exchange rate movements for changes in relative prices, productivity differentials, prices of tradables and non-tradables in prices of financial assets, tariff and non-tariff reforms, improvements in payment and settlement systems affecting transaction costs.

"It needs to be recognised that in view of the difficulties associated with construction of several REER indicators, the central bank's intervention strategy should primarily be to ensure an orderly exchange-rate market condition by containing excessive volatility. Movements in the REER, which take into consideration developments in the trade account alone may not be representative of fundamentals."

At the same time, the report emphasises that the conduct of the exchange-rate policy must not be primarily guided by the developments in the capital account of the balance of payments.

The Tarapore committee had recommended a +/- 5 per cent band centered around a neutral REER. Such a band was to serve as a guide to policy, identification of a neutral base and the exact lag structure indicating the response of trade flows to REER movements.

The Reserve Bank has argued that setting up a +/- 5 per cent band suggests a rolling neutral REER for comparing REER for any period.

"Such a crawling band in which the central level of the exchange rate would alter depending on the lag length and a moving base describing a locus of sustainable external balance positions would have several advantages, particularly in terms of anchoring expectations. The success of the suggested band, however, would be contingent upon the attainment of all the preconditions on a sustained basis. In the face of large destabilising capital flows and/or periodic deviations from norms suggested as preconditions (by the CAC), rigid pursuance of such a band could, however, be costly and distortive, says the report.

Highlighting the developments on the exchange rate front, the report said the rupee remained reasonably stable in 1996-97 being traded in a narrow range of 35 to 35 against the dollar between May 1996 and June 1997.

The resurgence of capital inflows in the absence of any widening of the current account deficit necessitated intervention purchases of $7,801 million by the RBI in 1996-97. The real exchange rate -- in terms of trade-based real effective exchange rate -- continued to appreciate during the year, rising by 6.4 per cent by March 1997, it said.

Compiled from the Indian media