Credible tightening measures will persuade rating agencies to maintain India as an Investment Grade credit
We expect finance minister Chidambarams 28 February budget to err on the side of prudence, incorporating a modest tightening of the underlying fiscal stance after a bigger squeeze in 2012-13. This should help pacify the rating agencies as well as the RBI, leaving us more confident of our continuing bullish view of the bond market. The larger than previously expected fiscal tightening has, however, led us to further reduce our GDP growth forecasts for the current fiscal year and next.
What are the main measures likely to be announced? On the assumption that the FM will indeed deliver a net fiscal tightening in the order of ¼ - ½% of GDP in the budget, we have summarised what we believe are the most likely expenditure and revenue measures. Based on his past budgets (he has been finance minister on two previous occasions) and other statements, we expect Chidambarams approach to be governed by an ideological preference for spending constraint over direct tax rises. We should probably also think of him more as a technocrat than a conventional politician, although clearly he wont and cant ignore the political angle altogether, not least because this will be the last full budget before the general elections. It looks very much as though the Food Security Bill, the financing of which Chidambaram is likely to provide for in the budget, will be the governments flagship welfare programme as it attempts to win another term in office.
Prudence to the fore: The FM has made it clear that achieving a 5.3% of GDP central government budget deficit in 2012-13 and a further improvement to 4.8% in 2013-14 are of crucial importance.
A focus on spending constraint rather than tax increases: Following an aggressive fiscal tightening, equivalent to more than 1% of GDP in the current fiscal year, we estimate that a further squeeze in the order of ¼-½% of GDP would be enough to achieve the Finance Ministers 2013-14 deficit objective, probably with some room to spare. This is the sort of tightening we envisage, with Chidambaram set to focus more on spending restraint as opposed to tax increases to achieve his objectives. There is, however, likely to be some provision made for the Food Security Bill.
Further encouragement for RBI cuts and unchanged sovereign ratings: No doubt the government will also be