RBI surplus transfer: real danger of fiscal slippage.
The shortfall in RBI’s surplus transfer by around `350 bn from budget estimates raises real concerns on potential fiscal slippage (0.2% of GDP). We await validation of this in RBI’s annual report, but lower RBI surplus is likely from costs of (1) demonetization led liquidity management of (around `100 bn), (2) printing of new notes (`50-70 bn), and (3) forward FX intervention (`70 bn). Bond market will be under pressure on fears of additional borrowings, but it needs to be seen if revenue side buffers emerge.
RBI surprises with a much lower-than-expected surplus transfer to government
RBI announced a surplus transfer of `306.6 bn to the government. This is significantly lower than the last two years’ transfer of `659 bn and the likely budgeted amount for FY2018 (Exhibit 1). We note that `749 bn was budgeted for FY2018 towards dividend/transfer from financial institutions and RBI. This compares to `762 bn received in FY2017RE with `659 bn from RBI. Thus, we estimate a shortfall of `350 bn on account of lower transfers by the RBI. This definitely raises concern that the GFD/GDP deficit may overshoot by 20 bps. But, as we highlight below, it is premature to ascertain the extent of fiscal slippages, if any.
Printing and sterilization cost of liquidity…
Demonetization-led liquidity surplus forced RBI to resort to a combination of liquidity management tools such as term reverse repos, MSS, CMBs, and OMO sale (Exhibit 2). The cost of MSS and CMBs was borne by the government, but the surge in system liquidity led to net reverse repo outstanding with the RBI going above `5 tn in November 2016 and March 2017, and averaging close to `3.2 tn in November 2016-June 2017. We estimate the cost borne by RBI due to net liquidity absorption to be around `100 bn. Further, the cost of printing new notes is estimated between `50-70 bn. We await RBI’s annual report to get clarity on whether there were any gains from ending currency liabilities, or any transfer to contingency reserves/asset development reserve (unlike in the last three years).
…and FX management partly to blame
RBI’s forward book also underwent a significant change over the course of its accounting year. RBI moved from being net short by `7.4 bn by end-June 2016 to net long by `17.1 bn by end-June 2017 (Exhibit 3). The consistent buildup of net long forward position may have cost RBI around `74 bn. Further, USD weakness over the year would have led to some revaluation losses in RBI’s dollar denominated assets which may have been partly offset by the gains made in domestic assets due to the rally in bonds.
Too early to call for definitive fiscal slippages
Lower RBI dividend disturbed the fiscal math (by 0.2% of GDP), but it is too early to determine the revenue side of the equation. We need to watch for cues from (1) direct tax collection (from higher filings), (2) indirect tax (GST) collections, and (3) any divestment upside. We note that the government has front-loaded revenue expenditure till June (32% of FY2018BE) over capital expenditure (22% of FY2018BE) (Exhibit 4). GFD has reached 80.8% of FY2018BE in 1QFY18 as against 61.6% in1QFY17. Clearly, slippage on account of RBI’s dividend has further made the fiscal state precarious and will pressurize the bond market. However, given the nature of the expenditure, we expect expenditure cuts to be lopsided towards revenue expenditure rather than capital expenditure. We await clarity on the revenue side for the above mentioned buffers—data for which will emerge over coming months.
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