Ruchir Sharma: A Budget That Sells India Short
By RUCHIR SHARMA
The financial markets’ response to India’s budget yesterday was telling. Stocks inched higher, bond yields drifted lower and the rupee didn’t budge against the dollar. In other words, the budget just managed to exceed the low expectations of most analysts. But the muted reaction from traders still indicates how difficult a task Indian authorities face in the coming year.
With India’s total fiscal deficit—for the central government and the states—still nearly 10% of GDP, investors were intensely focused on the government’s finances before the budget speech. To their surprise, Finance Minister Pranab Mukherjee seemed to chart a path of fiscal responsibility by increasing total spending a mere 3.4% (over what it ended up spending last year) and projecting a 5% reduction in the government’s borrowing program for the fiscal year that begins April 1. These numbers represent a break from the past, as the current government has otherwise been on a spending spree in its apparent effort to create a welfare state for India.
Yet while investors weren’t exactly disappointed, they were clearly not impressed by the budget arithmetic. To wit, they doubt if the government can keep spending under such a tight leash and cut subsidies in oil, food and fertilizers by the 12% promised. It will have to do that in the face of surging oil prices and the ruling Congress party’s commitment to extending food subsidies to more than 70% of India’s population.
Doubts also prevail over whether the government will be able to meet its revenue targets, with the estimated 17% increase in tax receipts based on an economic growth assumption of 9% for the fiscal year. Recent data showing cement shipping in lower volumes (a sturdy proxy for construction activity) and less robust auto sales suggest that economic momentum is decelerating. Many were excited by India’s resilience to the global financial crisis, but it may not last.
Both fiscal and monetary stimulus played a major role in buoying the economy, and the stimulus effects are now beginning to fade as the government loses its enthusiasm for sustained stimulus spending. As it should. India’s public finances have never inspired great confidence, and now public debt is hovering around 70% of GDP. With high inflation, it’s necessary for the central bank to further tighten monetary policy.
This means that for India to achieve its ambitious growth target in a sustainable fashion, the private sector has to take the baton from the government. Private investment has to surge. Unfortunately, the budget signs on that front are not too encouraging in what they say about the government’s commitment to encouraging that kind of investment.
Large parts of India’s corporate sector have been reluctant to make fresh investment commitments at home given the widespread corruption involved in setting up new projects. Foreign investors increasingly find that the need to have the right government connections trumps any other business criteria.
Concerns about crony capitalism have been shoved under the carpet because New Delhi policy makers think that it’s part and parcel of quick development. And after many years of rapid growth over the past decade, aided in part by the boom across emerging markets, there is a sense of complacency that India is destined to grow at a trend rate of 8-9%, come what may, so combating corruption is needless.
Policy makers have also had little incentive to carry out any meaningful economic reform when growth seemed to effortlessly chug along at more than 8%. But in recent months, cracks have begun to show up in the much touted “India story,” with inflation surfacing as a major issue and the private sector showing more inclination to invest abroad than at home.
Indian policy makers need to realize that the global environment is unlikely to be as favorable in the coming years as it was in 2003-08, buoyed as it was then by easy money and relatively healthy demand in the developed world. Money is again easy in the West, but damaged balance sheets mean lower demand in that debt-stricken part of the world, which then hurts export growth. India isn’t as export-dependent as China, but it is still affected by trade slowdowns. And with commodity prices rising sharply, capital that would have gone to, say, emerging markets gets siphoned into commodities; India is dependent on capital inflows to fund a current account deficit of more than 3% of GDP.
The budget picture is not entirely bleak, especially compared to the budgets before this one. By not carrying on with the streak of populist announcements that characterized earlier budgets, the government did show greater sensitivity this time to the changed economic environment, where investors are more circumspect of India’s growth profile. Perhaps New Delhi isn’t taking high growth to be the birthright it assumed in the past, and isn’t simply preoccupied with dividing the revenue pie for populist measures.
But the less-than-enthusiastic reaction from the international community shows that a lot more economic reform must happen for the verve to come back into India’s markets. These reform measures need to include further liberalization of foreign direct investment in the multi-brand retail sector as well as legislative changes in India’s land acquisition laws and tax codes to entice more investment, and especially longer-term investment.
The budget gave few, if any, concrete indications along such reform lines. It was more in the nature of “do no harm” to the economy. That’s not a bad start. But it’s not good enough to get to the 9% growth and 5% inflation marks to which Indian policy makers aspire.
Mr. Sharma is head of emerging markets at Morgan Stanley Investment Management.
Comments Off
Quinn on February 22nd 2012 in Uncategorized



![[illustration]](http://si.wsj.net/public/resources/images/PJ-AM680_pjMCAM_20080701164317.jpg)
![[photo]](http://si.wsj.net/public/resources/images/PJ-AM677_pjMCAM_20080701210435.jpg)
![[SB10001424052748704187204575101643830571452]](http://s.wsj.net/public/resources/images/WK-AT107A_REVAL_D_20100304164550.jpg)



