Both fiscal and current account deficits big problems this year, economists not too sure what can be feasibly done.
India, historically, has a twin deficit problem — the current account deficit (CAD) and the fiscal deficit. In 2011-12, the CAD is set to be the worst since the 1991 balance of payments crisis. The fiscal deficit will not be historically high but is poised to be bigger than estimated at the time of the Budget, and may disturb the government’s fiscal consolidation plans.
Which of the two is a bigger devil for the Indian economy? Economists have varied views. Some believe the CAD, which represents net outflow of money from the country due to a gap in the trade on goods and services, besides investment payments and incomes, is the bigger problem of the two deficits.
“CAD is a more critical problem, according to me...Trade deficit is widening, but nothing can really be done about it,” says Madan Sabnavis, chief economist, CARE Ratings. He expects the CAD to be close to 3.5 per cent, unless something dramatic happens.
The trade deficit, the excess of merchandise exports over imports, widened to $116.8 billion in the first eight months of the financial year. Given that demand in the US and euro zone are muted due to the economic crisis, exports are unlikely to pick up at a fast pace in the coming months. Though the rupee has depreciated by nearly 20 per cent since August, it is not really boosting exports, while increasing the import bill. India's export growth slowed to 4.2 per cent in November, after growing by 80 per cent in July.
Basically, nothing can be done about these external factors. “However, the fiscal deficit is in government's control. Government can increase the price of petrol, reduce subsidies. It is helpless on CAD, as the situation has more of external factors in play,” Sabnavis adds.
Dun and Bradstreet’s senior economist, Arun Singh, says, “The government can take care of the fiscal deficit, while CAD is an international phenomenon or based on external factors.”
However, Anis Chakravarty, director, Deloitte, Haskins and Sells, disagrees. "Though both are a problem, the fiscal deficit is a major problem compared to CAD,” he says. “Our services exports have gone up. Till the rupee stabilises, we will continue to get some benefit on that front. But the bigger issue is fiscal deficit. Rationalisation of subsidy is not happening. Tax collection is not robust."
Adding: “It is not that the government cannot do anything about a worsening CAD. It needs to take initiatives like export promotion or free trade agreements with neighbouring countries. We need export promotion policies.”
Predictions
The CAD has already touched 3.6 per cent in the first half of this financial year. Though,it is a shade lower than 3.7 per cent in the corresponding period of last year, there is a big change in the conditions then and now. In 2010-11, the CAD improved in the second half to deliver a deficit at 2.6 per cent of GDP. This time, the situation does not seem similar. The CAD widened to 3.7 per cent of GDP in the second quarter of 2011-12, from 3.4 per cent in the first three months.
YES Bank chief economist Shubhada Rao says while the CAD peaked in the second quarter of 2010-11 at 4.4 per cent of GDP, this time the deficit is likely to widen, peaking in the third quarter at 4.5 per cent.
She expects this to be followed by the deficit’s seasonal contraction in the final quarter. “A weaker rupee and slowing domestic growth momentum would help curb CAD in the fourth quarter via a pick-up in remittances and moderation in non-oil import," she says. Fo the year as a whole, she expects the CAD to increase to around 3.6 per cent of GDP against her earlier call of 2.9 per cent. Most others peg it to be between 3 and 3.5 per cent of GDP.
If that happens, this will be the highest in 20 years. In 1990-91, the CAD was 3.1 per cent of GDP. In 1991-92, following sweeping liberalisation measures to tackle the balance of payments crisis, it came down to 0.3 per cent. In early 2000, the CAD was in surplus for some years.
On the other hand, with four months more to go, the fiscal deficit (as of November) had already touched 85 per cent of the budget estimate for the entire year. Finance ministry officials now believe the deficit may widen to 5.5-5.8 per cent of GDP against the Budget estimates of 4.6 per cent. In fact, in the first half of 2011-12, it was 6.7 per cent of GDP. To finance it, the government has decided to go for an additional Rs 40,000-crore borrowing, apart from the already announced Rs 53000 crore borrowing over the Budget estimate. The deficit had been coming down over the years, but the consolidation got disturbed after the stimulus given to the economy from December 2008 to offset the global financial crisis’ impact.
