Budget 2022 may force RBI to delay policy normalisation, says HSBC's Pranjul Bhandari

The Finance Ministry has a strategy at play. The strategy is that once you give NREGA to somebody, you help out that person for that particular day's consumption, but when you give a job to somebody it is a permanent help. That is the message from Pranjul Bhandari, Chief India Economist at HSBC, who sat down with Business Today Television's Managing Editor Siddharth Zarabi to discuss the fine-print of Budget 2022-23.

Watch the full interview here: 

Also Read: Budget 2022: What will its impact on the economy be?

Edited excerpts by Upasana Bakshi

Q. What is the overall direction of this Budget?

I think the positive is the fact that there is a clear thrust on capital expenditure. I think that's a good thing that has come through, but unfortunately, it has come at a cost. I think the costs are two-fold. Number one social welfare spending has been lowered from what we have hoped for and also the fact that now the government is borrowing a lot which means there is stress in the bond market which are pushing up some of the yields. When you put all of this together, the fact that fiscal deficit has been reduced and that generally is sort of antigrowth, but yet capex has been increased which is generally pro-growth. If you combine the two net impacts on GDP growth from the budget, my view is that it is neutral. It is a sort of a neutral budget. Some things are looking great like higher capex but some other things like for example social welfare spend are not looking that good.

Q. Does this budget support the recovery or does it switch direction towards being more conservative after two years of extra spending to beat the pandemic impact on the economy?

I do think that the Finance Ministry has a strategy at play. The strategy is that once you give NREGA to somebody, you help out that person for that particular day's consumption, but when you give a job to somebody it is a permanent help. I think they have tried to move from temporary help to permanent help by doing capex to get jobs on the back of it. That has been the general strategy. It looks good, but they could have continued it for a little longer with a little higher social welfare spending given the stress we have at the bottom of the pyramid. We are seeing demand slowing in rural India. We are seeing a K-shaped recovery if you track the NREGA numbers, where demand for works is far outstripping the supply of work under the scheme. That shows there is demand for social welfare schemes at this point. So, the government could have continued being generous on that front for a little longer and then eventually gone on to the capex bandwagon. That would probably be my number one grouse with the budget.

Also Read: Budget 2022: Centre pegs dividend from RBI, banks at Rs Rs 73,948 cr in FY23

Q. Why has this choice been made at this stage?

There is a macro backdrop to it. The next two quarters are going to be very strong led by pent up services' demand. Last year we saw pent up goods demand. By the end of last year, many of us were fully vaccinated. We are more confident to travel now. Once Omicron ends, we will be travelling more and we will be out of pent-up services demand in the system. But the problem is anything that is pent up, has an expiry date because it runs its course and my worry is by the middle of FY23, two quarters down the line we may realise the pent-up service demand has gone and growth is slowing and we don't have a growth driver.

What's going to lead the growth from here? The budget in some sense is planning for that. It's planning for the second half of the year, it is trying to set the stage for capex, because the hope is that by the time pent up demand comes off by then a new investment cycle will rise and become the new driver for growth. I think that was the general thesis for the budget. My only worry with this thesis is that maybe the stage is not fully set for a capex rise. I agree with you that public capex will increase, the government is trying to increase capital expenditure, but the government makes up only 20 per cent of investment, 75-80 per cent is actually private sector driven.

How is the situation for the private sector? When you look at that there are some positives. The number one positive is that the balance sheets of companies are much healthier today than pre-pandemic. They have been able to shed a lot of debt at a time there was so much liquidity in the system, but unfortunately just healthy balance sheets are not good enough to drive investment. What we are really waiting for are policy and macro-economic certainty. There's just too much uncertainty in the system. Wave after wave, commodity prices, until that settles, I don't think private investors will come back in a hurry.

Q. Is the government getting any data that is not perhaps publicly available that dictated this strategic choice as you call it?

There are a couple of issues here. The first is that we do not have very good data in the informal sector. You know even the GDP numbers sort of really don't capture what is going on in the informal sector. They just assume that the informal sector is in line with the formal sector, but sometimes that is not true when you have a huge shock like the pandemic. The informal sector can do worse than the formal. If you go by our official data, we don't get very good real-time indicators from the informal sectors. What we do get from the informal sector is many other surveys, a lot of surveys have come over time. We are getting more and more surveys every day and each of them is pointing to the fact that there's this stress. There are a lot of problems at the bottom of the pyramid.

Also Read: Budget 2022: A holistic approach to tackle economic growth

Q. Are you happy with the choices that have been made in this budget?

As I said a capex push which leads to good permanent jobs in the future is always good. We want that in our country. But in the meantime, in the very sharp run, the government could have continued with social welfare schemes, or at least increased the outcomes of social welfare schemes for a bit longer. You can see the amount of stress we are seeing at the bottom of the pyramid right now. I am happy they did capex but I am not happy that they cut back so much on social welfare spending. However, the budget may turn out to be quite different at the end of the year. It may turn out that the demand for NREGA is so high that the government is forced to spend more on NREGA because it is a demand-driven scheme and because they don't have so much money they actually cut back from capex. So, it may happen eventually that the capex is a bit lower and social welfare spending is much higher.

Q. Given what is happening to oil prices, how do you think that impact is going to play out at the projections for the next fiscal?

Rising oil prices are a problem across the board for India. It increases the country's trade deficit. It increases the cost of production and therefore growth, as well as increasing inflation. It is a problem across the board and that is a problem. That is a headwind. We are facing higher oil prices and that is a cause of worry regarding growth in the second half of the year. When pent up demand fades, even the commodity prices are high, central banks are tightening weights, sucking out liquidity that drives growth in such a situation and that is my worry.

Q. What about the inflation outlook? Should the government be more worried about inflation at this stage?

Inflation is a problem domestically as well as globally, and it was also pointed out in the economic survey. I think the government definitely knows more about it. It is a real problem. Global inflation started rising in 2021. India's inflation was higher even before 2021, right through 2020. Our inflation numbers are higher than the RBI target of 4 per cent. So, we really have some problems there. The RBI shifted its focus more towards growth and ignored inflation to some extent over the last two years but the central bank has to move quickly and start ensuring that it does everything to keep inflation contained otherwise things may slip out of hands.

Q. How would the RBI be going through the fine print of the budget?

I think RBI always likes high-quality spending, so this high capex is something they will like. Having said that, the budget has put the RBI in a tight spot. With inflation rising, RBI was going to tighten monetary policy and suck out liquidity from the system. It was going to gradually increase rates. The central bank has sort of planned it out, that's what I understand. I listen to their speeches. They have planned it out but now what has happened is that the budget has come with a huge gross market borrowing.

They are going to borrow a lot of money from the markets which has made the debt markets nervous. Bond yields have jumped up. They are vulnerable and at this point, the RBI will get very scared. If at this time the central bank hikes rates or drains out liquidity from the system, the bond markets may be doubly hurt.

So, I think what the budget has done is force the RBI to delay its policy normalisation. The mistake is that practically there has been no concern for the bond market. You have pushed a very high borrowing calendar at them. Bond markets were hoping for some steps to increase domestic bond inclusion into global indices, but no news have come.