Even as global volatility keeps Indian markets on the edge, investors have started building expectations on a slew of reforms from Budget 2016. Bloomberg TV India caught up with three market experts — UBS Securities India’s Head of Research Gautam Chhaochharia, Edelweiss Financial Services’ CEO for Wholesale Capital Markets Vikas Khemani and Crest Capital and Investment Managing Partner Vikram Kotak — to get a pulse of market expectation on the fiscal consolidation path.

It’s all about the fiscal fix. Do you think the Finance Minister will stick to the FRBM (Fiscal Responsibility and Budget Management) target of 3.5 per cent of GDP during FY17?

Khemani: I think the Finance Minister has to clearly balance between fiscal deficit and growth. And, at this point in time, in my opinion, we need to have a bit of relaxation on the fiscal deficit side and look at boosting the economy through higher public expenditure. Currently, the government expenditure-to-GDP ratio is almost at a 25-year low. It is very critical that it picks up. And the fact that you have OROP and 7th Pay Commission liabilities sort of staring at you, if you stick to 3.5 per cent fiscal deficit target, the development expenditure will take a beating — it will probably grow in single digit, which could be very detrimental at this point in time. So I would tend to think the choice has to be between growth and fiscal deficit. Right now the case (for FY17 fiscal deficit target) is more in favour of somewhere close to 3.8-3.9 per cent. The other worry is about inflation, which probably may not be justified. Given the kind of muted commodity prices, we don’t think the scale-up of deficit target from 3.5 to 3.8 per cent could be very inflationary. We have seen that in the past also. The US has done it. Counter-cyclical expenditure has to be there. So, in my opinion, I would rather watch out for slightly loosened fiscal deficit than a 3.5 per cent number.

The growth-versus-deficit debate is clearly something that the market is grappling with for quite some time now. What’s your thought on this whole debate?

Kotak: When you make a budget, you have to look at the external situation around you. You have 30 per cent of the global economy in negative interest rates. You have a world which is searching for the growth. And there is a country where you have 7 per cent growth. You have a Hobson’s choice. You keep the deficit at 3.5 per cent or you loosen a little — it is up to you. I think there is a need today to ramp up the expenditure, particularly on the capex side. There is a revival happening but it is very slow. You want to revive that in a big way. You already kind of took away the benefits of the oil price fall from the normal citizen and gave it to government employees. Now the government needs to end that because they are unable to create demand through that process.

Rural India is struggling for the last two years as there have been two drought years. There is a need to revive that sector. So right now, you need to focus more on getting growth back because growth will take care of the fiscal deficit. The world is sitting on money. There can be a big carry trade. Right now you need money. We have got $125 billion in the past two years from FIIs, FDI, retail and mutual fund investors. This kind of fund has already been put in by people and they are not able to make money. It is a great time for you to create a base and push the growth the way it is required and then you see what the results are. So I will go for growth and not for the fiscal.

What is your call — fiscal consolidation or growth?

Chhaochharia: Our forecast is 3.5 per cent. And I think the Central government number — 3.5 or 3.6 or 3.7 — is not a big number in the scale of things. Just by deviating on the fiscal deficit target to 3.7 per cent, it will still be a negative impulse to the economy.

When a government is consolidated fiscally, moving from 3.9 to 3.7 per cent, it will still mean a negative impulse to the economy. So in our view, three things have to be highlighted. One is a lot of the attention is focused on the Central government but remember the bigger challenge is for the States. States’ revenues got hurt by lower oil prices. And you are talking about Pay Commission — it is a small thing for the Central government but it is a bigger challenge for the States. States are already near 3 per cent of FRBM target. So how can they fund it? And they can only fund it by cutting other spending. The second point, which ever scenario you look at, for Central and the State governments — what it will definitely mean is the quality of spending will go down. So the mix from capital spending will definitely move to revenue spending because of the need to implement the Pay Commission.

So while we were earlier hoping the government will somehow dilute the delay in the Pay Commission, Arun Jaitley’s recent comment suggests that they want to go ahead and that will definitely impact you mix of spending. And that has implications. The third point is the consolidated fiscal deficit of India is above 7 per cent, which places India more near Brazil in the global context than other emerging markets. It has improved since 2013 and so it is not a fragile economy.

Just to put a simple data point, the last time it did fiscal expansion and Pay Commission, in FY09, India’s consolidated fiscal was 4-4.5 per cent.

So, the starting room was huge for India to take that risk. Given the way the global economy is with the global risk appetite, it will be a risky bet to take.

Even if you are talking about 3.5 per cent deficit and a couple of basis point here and there, you still have a couple of things to take care of — subsidies, OROP or the 7th Pay Commission. How does the math really add up?

Khemani: The situation is very difficult. In my opinion, you can’t do away now with OROP or the 7th Pay Commission — you have committed to those. Now the only way out is that you have to find money for development expenditure.

For that, first you have to start looking for avenues outside the Budget. Secondly, the fiscal deficit can be bridged or consolidated a lot more through revenue and tax collection boost. And that can happen when growth picks up. In my opinion you have to sort of overlook fiscal numbers or loosen a bit in the next couple of years and take growth-boosting measures.

If you do that, tax collection can become robust. And if you can push forward GST, it will be lot more revenue creative.

What are the expectations about banking reforms?

Khemani: The market wants the FM to come out with a guideline on what he is thinking of the PSU bank recapitalisation process. This is one of the big areas for economic revival and it concerns everyone. What kind of statement he makes around that will be critical to watch and the market will pick up the clue from whatever he says on that.

The market will pick clues from fiscal deficit and interest rates, which are related. But right now the markets are affected and interest rates are not coming down in a meaningful manner.

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