Budget deficit target: Slight miss as revenues suffer setback, expenditure rationalized

*Debt to GDP down from 81.9% to 78.5%
*CB governor wants govt. to cut back on domestic borrowings

 

The government’s 6.8 percent of GDP budget deficit target for 2011 was slightly missed, reaching 6.9 percent on a improved expenditure performance despite revenues falling, the Central Bank said yesterday.

With the Central Bank tightening credit growth in a bid to contain a balance of payments crisis, its Governor Ajith Nivard Cabraal said yesterday that he would like to see the government borrow less from domestic sources, while remaining optimistic that the government could tap into external financing sources.


He said this was crucial in order to maintain inflation at single digit levels, contain pressure on interest rates and place the economy on a sustainable growth trajectory.


During the first two months of this year, net credit to the government from domestic banking sources increased substantially by Rs. 136.3 billion. Credit to the private sector increased by around Rs. 100 billion.


"The government’s domestic borrowings were fairly high and the problem was that it was trying to finance an infrastructure development drive. We would like to see the government rely less on this (domestic) source and we believe it could rely on other (external) avenues, such as bilateral facilities and international bond issues," Cabraal said, adding that he was confident such sources would be available soon.


Releasing the Annual Report for 2011, the Central Bank said, "The focus of the budget for 2011 was to create a conducive environment to enhance investment to maintain high economic growth, while continuing the fiscal consolidation process. The budget for 2011 announced major reforms to simplify the tax system and to broaden the tax base to enhance revenue mobilisation in the medium term. Further, the government reiterated its commitment to fiscal consolidation by rationalising recurrent expenditure, while maintaining public investment at a high level.


"Accordingly the overall fiscal deficit in 2011 as a percentage of GDP was reduced to 6.9 per cent from 8 per cent in 2010. Despite the revenue shortfall, restraints on recurrent expenditure and prioritisation of capital expenditure helped to maintain the fiscal balances during the year broadly in line with the estimates for 2011.


"Revenue collection in 2011 suffered a setback with the abolition of several taxes, the reduction in tax rates and the upward revision in tax thresholds. However, the major reforms that were introduced in the budget for 2011, to simplify the tax system and to broaden the tax base, are expected to enhance revenue mobilisation in the medium term although in the short term these measures are likely to result in some reduction in the tax/GDP ratio. Exemptions granted, particularly on imports of petroleum and milk powder, to mitigate the pressure on the domestic market from rising international prices, also adversely affected revenue mobilisation in 2011. Consequently, the revenue to GDP ratio declined to 14.3 per cent in 2011 from 14.6 per cent in 2010.


"Measures taken by the government to rationalise recurrent expenditure, while prioritizing public investment to strategically important infrastructure development projects helped to reduce total expenditure and net lending to 21.4 per cent of GDP in 2011 from 22.9 per cent of GDP in 2010.


"The reduction in total expenditure and net lending by 1.5 percentage points of GDP was the combined outcome of a reduction in recurrent expenditure by 1.4 percentage points and capital expenditure and net lending by 0.1 percentage points. The fiscal consolidation measures taken in the previous year as well as the low interest rate environment slowed the growth in interest expenditure, largely helping to moderate recurrent expenditure in 2011. However, investment on key infrastructure projects in the areas of roads, ports, power and energy, railways, water supply and irrigation were continued to enhance economic activity.


"The fiscal deficit was mainly financed through domestic sources with the banking sector contributing a major portion of the required funds. The limited resources available with the non-bank sector, as part of their funds were invested in alternative investments, and the tight rupee liquidity in the domestic market during the latter part of the year, increased the purchase of government securities by the Central Bank from the primary market.


"Considering the favourable response from foreign investors and the relatively low interest rates that prevailed in the international market, a 10-year international sovereign bond was issued to reduce the crowding out impact of budgetary financing and to reduce pressure on domestic interest rates. Consequently, net domestic financing in 2011 amounted to 3.5 per cent of GDP, while net foreign financing amounted to 3.4 per cent of GDP.


"Continued improvement in government debt sustainability was reflected in the outstanding debt to GDP ratio, which declined to 78.5 per cent from 81.9 per cent in the previous year. Fiscal consolidation efforts together with higher economic growth contributed to the reduction in the debt burden, although the depreciation of the rupee against major foreign currencies towards the end of the year had some adverse impact on the outstanding debt stock," the Central Bank said.