Markets expect govt to borrow Rs 80,000 cr more to bridge fiscal deficit

RBI waiting for Budget numbers has surprised the bond market

The Reserve Bank of India’s (RBI’s) decision to pause and wait for Budget numbers seems to have convinced the market that the central bank suspects the fiscal deficit numbers would be breached by some margin and there would be extra borrowing. 

The fiscal deficit can go to 3.6-3.7 per cent of gross domestic product (GDP), and not 3.3 per cent as budgeted, given the current conditions. The extra borrowing could be in the range of Rs 50,000-80,000 crore to bridge this deficit, the market expects.

Even as the short-term money market rates have fully reflected the 15-basis-point (bp) rate cut, the 10-year bond yields have transmitted 89 bps because of fiscal deficit concerns, say bond dealers. The 10-year bond yields rose again five bps, after jumping 15 bps on Thursday, to close at 6.66 per cent on Friday.

“The 10-year yield had factored in a 25-bp cut. It wouldn’t have reacted much if there was a cut. Furthermore, given that inflation is going to remain above 5 per cent in the coming two-three months, it is almost certain that the RBI will not have any scope to cut,” said a bond dealer, requesting anonymity. “Prospects of future cuts are also nixed. The yields will adjust to that as well. By the end of December the 10-year yields could rise to 6.75 per cent.”

There are lots of moving parts in the equation, and bridging the fiscal deficit depends upon planned and possibly additional disinvestments, as well as collections from small savings scheme. But with only four months left in the fiscal year, the market is finding it difficult to fathom if the government would be able to pull off a sale of Air India, even as BPCL and other planned privatisations could be achievable. There are also concerns about the valuation — whether it would be justifiable for these assets if done in a hurry.  “The trend for tax collections — both direct and indirect — is significantly lower than budgeted, leading to fears of extra borrowing,” said Badrish Kulhalli, head of fixed income at HDFC Life Insurance. 

“Some of the shortfall can be covered by small savings collections, beyond the budgeted amounts. Rest could be financed either through additional disinvestment, if possible, or some one-off source, with the balance being bridged through extra borrowing,” Kulhalli said, even as he didn’t want to hazard a guess about the possible extra borrowing numbers at this point.

Given a shortfall in direct tax collections, estimated at Rs 1.6 trillion, as well as in goods and services tax (GST) at Rs 1.2 trillion, the bond market is sure that the government will be dependent on extra dividend from the public sector undertakings (PSUs), as well as robust mobilisation from small savings instruments.This is also a reason why the government is unwilling to reduce rates on small savings even as the RBI in its December policy clearly said there was a need “for greater flexibility in the adjustment in interest rates on small saving schemes”.

However, not all in the market are expecting huge extra borrowing by the government. And even if there is, the market has enough appetite to absorb that. “The liquidity surplus is such that any extra borrowing can be easily absorbed,” said Harihar Krishnamurthy. 

“There can be a fiscal breach, but the market also wants the government to spend more. That will attract more GST collections. A little OMO (open market operation) support from the RBI, dividend from PSUs, BPCL sale and possible Air India privatisation can comfortably match the government’s arithmetic,” Krishnamurthy said.