Investors Despair as India's Budget Hemorrhages: Andy Mukherjee

Commentary by Andy Mukherjee

July 28 (Bloomberg) -- Investors and businessmen are discovering to their horror just how empty the Indian government's rhetoric of responsible budgeting has been.

The damaging implications of fiscal indiscipline have so far been masked by a high rate of economic growth.

With Fitch Ratings cutting India's debt outlook to negative, the veneer is now peeling off.

The Federation of Indian Chambers of Commerce and Industry, a New Delhi-based lobby group, yesterday came out with a four- point agenda for governmental action over the next 100 days. One of its key demands is that the administration ``address the perception of a looming fiscal crisis.''

A crisis it may not be, at least not yet.

However, this is no time for complacency.

Pork-laden spending policies may quickly become unsustainable if the economy and tax collections slow down before inflation and interest rates on government borrowings have had a chance to recede.

The government must start acknowledging the grim fiscal reality in order to seek political consensus for reviving asset sales. It has a ready blueprint of what needs to be done from the previous administration's experience six years ago. For now, it seems to be in no mood to even take a look at it.

Assuming the price of crude oil at $120 a barrel, Morgan Stanley economist Chetan Ahya estimates the total budgetary gap to be 10.4 percent of gross domestic product in the year ending March 31, 2009, up from just 7.7 percent last fiscal year.

Budget Deficit

If instead of $120, the average price of oil is assumed to be, say, $135 a barrel, the deficit estimate would rise to 11.4 percent, Ahya wrote in a July 17 note to investors.

Ahya's calculation combines federal and state-level data with the so-called off-budget spending items.

Apart from the subsidies on energy, food and fertilizers, off-budget items include the cost of a government-sponsored farm- debt waiver program as well as the expenditure to be incurred on a pay increase for civil servants.

The last time the overall deficit exceeded 11 percent in India was in the year ended March 31, 2002. Back then, the economy was growing at an annual pace of just about 5.8 percent, as against the central bank's forecast of at least 8 percent expansion for the current fiscal year. The inflation rate was less than 2 percent, compared with about 12 percent now.

`An Imperative'

The government of then Prime Minister Atal Bihari Vajpayee turned the bleak fiscal situation into an opportunity to sell state ownership of key assets to private investors, in the process raising $5 billion in three years.

``Disinvestment in public sector enterprises is no longer a matter of choice, but an imperative,'' Indian President K.R. Narayanan said in his address to parliament on Feb. 25, 2002, setting the government's agenda.

In May 2004, the government changed. Prime Minister Manmohan Singh's Congress Party obliged his Marxist backers' demand to halt privatization by formally scrapping the previous administration's policy of selling controlling stakes to strategic investors.

In the four years that ended March 31, 2008, asset-sale revenue dwindled to a total of $1.5 billion, even as the benchmark stock-market index almost tripled in this period.

Missed Chance

It's too late to make good on the opportunity that has been squandered. But now that the Marxists aren't dictating economic policy, and the government has survived a vote of confidence, it's both possible and crucial to revive the asset-sale program.

That, it seems, is unlikely to happen.

``We're not selling any assets,'' Finance Minister P. Chidambaram said last week. ``What we plan to do -- this is what I said in the budget speech -- is that we want to list unlisted public sector enterprises.''

It may be too late for that. The benchmark stock index is down more than 34 percent in U.S. dollar terms this year. Traders expect the turbulence to continue. The National Stock Exchange Volatility Index has risen 73 percent from its mid-May level.

Instead of running enterprises with a view to providing employment to people, the government has to spend its energy on education, health care and law and order. The July 25 terror attack in Bangalore ought to be a fresh reminder of the consequences of wrongheaded governmental priorities, which have left India with a bulging -- yet largely dysfunctional -- state.

Making Common Cause

It takes time to create a pipeline of deals. So even if the strategic-sale program is restored now, this government won't be able to sell anything before its term expires in May next year.

That doesn't matter. What's important right now is to send a signal to investors that the two major national parties in the country -- the Congress and the Bharatiya Janata Party -- agree on the need to shrink the balance sheet of the Indian state.

If that message is credible, it would assuage investors' concerns about what Mumbai-based brokerage Enam Securities Pvt. calls the government's ``fiscal mess.''

The BJP, as the opposition party is known, has snubbed the Congress by not supporting it on the proposed civilian nuclear- energy agreement with the U.S.; therefore, it's unrealistic to assume that the Congress would make common cause with the BJP on asset sales, even when -- just like the nuclear deal -- it is very obviously the right thing to do.

(Andy Mukherjee is a Bloomberg News columnist. The opinions expressed are his own.)

To contact the writer of this column: Andy Mukherjee in Singapore at amukherjee@bloomberg.net