Economic Survey 2020-21: Larger fiscal deficit, core inflation target and green bonds among key takeaways

Highest GDP growth in FY22 since independence, larger fiscal deficit expected in Budget 2021, current account surplus for the first time in 17 years, change in inflation calculation for monetary policy purposes, and rebuttal to global rating agencies for being biased - these are among key takeaways coming in from the Economic Survey 2020-21 that was tabled in the Parliament earlier today. Let's take a detailed look:

Growth projections and fiscal path

The Economic Survey estimated real GDP growth for FY22 at 11 per cent and nominal GDP (which accounts for inflation) at 15.4 per cent. This would mark the highest GDP growth since independence.

"V-shaped economic recovery is supported by the initiation of a mega vaccination drive with hopes of a robust recovery in the services sector. Together, prospects for robust growth in consumption and investment have been rekindled with the estimated real GDP growth for FY 2021-22 at 11 per cent," the survey said.

For FY21, the survey projected the GDP growth to contract by 7.7 per cent, the sharpest fall in four decades - mainly due to the nationwide lockdown to curb the COVID-19 pandemic.

"The Economic Survey's forecasts of real and nominal GDP growth for FY2022 of 11 per cent and 15.4 per cent, respectively, will require a substantial push from central and state government spending. Private sector capacity expansion announcements are anticipated to be intermittent, and sector-specific in the next couple of quarters. Moreover, private consumption is likely to chart a differentiated recovery across income and age groups, in our view," said Aditi Nayar, Principal Economist, ICRA.

On the fiscal front, the survey noted that in order to sustain the recovery in aggregate demand, the government may have to continue with an expansionary fiscal stance, thus a larger fiscal deficit target for FY22 is expected in Budget 2021 scheduled for February 1.

"In line with our estimate that the Government of India will target a fiscal deficit of 5 per cent of GDP for FY2022, we peg its gross dated borrowings at Rs. 11.7 trillion for the coming fiscal," said Nayar.

Further, the survey projected India's current account to register a surplus of 2 per cent of the GDP in FY21, first time in 17 years.

Target core inflation for monetary policy

The Economic Survey called for targeting core inflation (inflation in the price index excluding food, fuel and other volatile components) for monetary policy purposes, which as per the survey is a "better measure of inflation". This is because food and fuel price shocks are transitory as well as mainly supply-driven and therefore not a monetary phenomenon, the survey pointed out, adding that a sole focus on CPI-C inflation may not be appropriate for four reasons.

"First, food inflation, which contributes significantly to CPI-C is driven primarily by supply-side factors. Second, given its role as the headline target for monetary policy, changes in CPI-C anchor inflation expectations. This occurs despite inflation in CPI-C being driven by supply-side factors that drive food inflation. Third, several components of food inflation are transitory with wide variations within the food and beverages group. Finally, food inflation has been driving overall CPI-C inflation due to the relatively higher weight of food items in the index," it said.

The survey also hinted at change in the base year for CPI and included new sources of price data in its calculation.

Monetary transmission strong

The RBI has reduced repo rate by 250 bps since February 2019 (the current easing cycle). The survey noted that the transmission of policy repo rate changes to deposit and lending rates of scheduled commercial banks (SCBs) has improved since March 2020. "Across bank groups, Private Sector Banks exhibited greater transmission in terms on fresh loans, however Public Sector Banks exhibited greater transmission on outstanding loans for the entire easing cycle. Private Sector Banks also reduced deposit rates more than Public Sector Banks," the survey said.

Banks have also reduced saving deposit rates. "The saving deposit rates of five major banks, which ranged 3.25-3.5 per cent prior to the introduction of the external benchmark (in end September 2019), were placed at 2.7-3.0 per cent as on January 15, 2021," it stated.

Going green

The survey emphasised that there is a coherent move to augment financing for sustainable development, thus aligning finance with sustainability. Key measures that have already been taken in this direction include National Voluntary Guidelines for Responsible Financing, lending to social infrastructure and small renewable energy projects within the priority sector target set by the RBI, Guidelines on Corporate Social Responsibility and Business Responsible Report requirement for top 1000 listed companies by market capitalisation. The country is also moving in the direction of creating a Social Stock Exchange (SSE), under the regulatory ambit of Sebi for raising capital by Social Enterprises working for the realisation of a social welfare objective.

The survey further added that India has become the second-largest market globally for green bonds with $10.3 billion worth of transactions in the first half of 2019 as issuers and investors continued to adopt policies and strategies linked to sustainable development goals.

Green bonds are debt instruments issued by an entity for raising funds from investors and the proceeds of a green bond offering are used towards financing 'green' projects.

Sovereign ratings don't reflect true picture

The Economic Survey highlighted bias in India's sovereign credit ratings, calling for global agencies to become more transparent and less subjective in their ratings.  

"Probability of default = Willingness to repay + Ability to repay. Willingness to repay is Gold standard as India has never defaulted on its debt obligations. India's total external debt (including all private sector debt) less than reserves => India resembles a negative debt company whose ability to repay is 100 per cent. So, on both willingness and ability, India should have highest rating," Chief Economic Advisor K Subramanian said.

"Reaction of the Sovereign rating agencies to the Budget proposals would be interesting to watch. Given the fact that countries all over the globe are following similar policies, it would be difficult for them to single out India for harsh comments/evaluation," Deepak Jasani, Head of Retail Research, HDFC Securities said.

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