HSBC’s First take on India's FY22 budget II Fiscal deficit soars, opening the capex door

The central government announced a much larger than expected fiscal deficit for FY21 and FY22, though some of it is led by conservative tax revenue estimates 4The focus on health and capital spending amidst tax policy stability is welcome. But the challenge of fiscal consolidation over the medium term cannot be ignored.

Larger fiscal deficit:

The government announced a larger than expected fiscal deficit for both FY21 and FY22. A fiscal deficit of 9.5% of GDP for FY21, versus the budgeted target of 3.5% of GDP (HSBC: 7% of GDP).  A fiscal deficit of 6.8% of GDP for FY22 (HSBC: 5.8% of GDP; market expectation of 5.5% of GDP). The central government now intends to reach a fiscal deficit of under 4.5% of GDP by FY26, (versus 3% of GDP by FY24 previously).

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More borrowings:

The government will borrow Rs 800 bn more in the last two months of FY21. The government will borrow Rs 12.1 tr in FY22 (HSBC: 11.5-12 tr, market expectation: Rs 11 tr).
However, tax revenues could be higher than budgeted:

The government has assumed tax revenues to contract 10% yoy in Q4 FY21, versus +33% in the quarter earlier. Even the tax buoyancy assumed for FY22 is low at 1.2. The risk to the deficit and borrowing numbers is that, led by formalization, tax buoyancy is higher than budgeted, both in Q4 FY21 and FY22, leading to a smaller deficit, more cash balances in FY21, and lower than budgeted borrowing in FY22.

Focus areas in Budget:

Health outlays:

The FY22 outlays for health have been increased 137% yoy to INR2.2 tr. Rs 350 bn has been put aside for the vaccine rollout.

Capex push:

The capex outlay for FY22 has been raised by 26% yoy, to fund railways, roads, bridges and telecom. Alongside, the setting up of (a) a new Development Finance Institution, (b) mega investment parks for textiles, and (c) a public infrastructure asset monetization pipeline, are other innovations in the budget.

Financial sector developments:

The budget called for the setting up of a new asset management company to deal with stressed assets. FDI limits in the insurance sector were raised from 49% to 74%. Some outlays (Rs 200 bn) were made for the recapitalization of public sector banks via issuing bonds.

Disinvestment:

About eight near-ready disinvestments will be completed in FY22. The government has also proposed the privatization of two PSU banks and one general insurance company in FY22, which will require legislative changes and comes as a positive surprise. The government expects Rs 1.75 tr from these sales, which is lower than the Rs 2.1 tr budgeted last year, but still high. There has been slippage more often than not on this front, in the past.

Tax stability:

The much feared COVID-19 cess and changes in capital gains tax did not make it to the budget. And in general there was a sense of tax stability.

Bottom-line:

While the focus on capital expenditure and corresponding reforms are welcome, the task of consolidating the fiscal deficit over the medium term has become harder (particularly as we believe the budgeted 14.4% yoy nominal GDP growth of FY22 may not be sustained once the scars of the pandemic begin to show up). Having said that, tax revenues may grow faster than budgeted, taking some pressure off, from the budgeted market borrowing