RBI Surplus Transfer Improves Outlook But Fiscal Deficit Target Unlikely To Change

Economists see the higher-than-budgeted payout offsetting any shortfall in tax or non-tax revenues.

<div class="paragraphs"><p>Source: Vijay Sartape for BQ Prime</p></div>
Source: Vijay Sartape for BQ Prime

The central bank's surplus transfer to the government is expected to help offset any fall in tax revenues or non-tax receipts and ease liquidity pressures, though faster fiscal consolidation is unlikely, say economists.

The Reserve Bank of India's board had approved the transfer of Rs 87,416 crore as surplus to the central government for the accounting year 2022–23 while deciding to keep the contingency risk buffer at 6%, according to the central bank's Friday statement.

The amount is higher than the Rs 30,307 crore the central bank transferred in the last accounting year and also more than the Rs 48,000 crore the government has budgeted as the dividends from the RBI and public sector banks combined. The larger-than-expected payout was on account of large dollar sales from earlier in the year.

"We believe this will help offset any shortfall in tax revenues or non-tax receipts," Pranjul Bhandari, chief economist at Barclays, said. According to her, even though indirect taxes remain robust, direct taxes have plateaued, and if GDP growth slows to around 5.5% in FY24 from 6.8% in FY23, as forecasted by HSBC, tax buoyancy could fall to under 1—a level where it's in line with nominal growth.

There may also be some shortfall in the privatisation receipts assumption of Rs 51,000 crore for FY24, typical of pre-national election years. As such, the higher RBI dividend comes at a good time, even though some parts of the markets were hoping for even more, Bhandari said.

This additional source of non-tax revenue adds to the fiscal tailwinds that the government appears to be enjoying, with falling imported prices, particularly for cooking gas, crude oil, and fertilisers, also providing space for subsidies to be lower and dividends from oil companies to potentially rise, Rahul Bajoria, chief economist at Barclays, said. Indeed, with fertiliser prices and natural gas prices declining sharply in recent months, there is a downside to the government’s fertiliser subsidy estimate of Rs 175,000 crore for FY23–24.

Revenue targets for FY23–24 are conservative, given the tax multiplier being close to 1 for most tax items relative to nominal GDP growth, Bajoria said.

For FY23, the tax collected for both GST and direct taxes exceeded the budgetary estimates by a big margin. "Put together, we see room for the government to modestly overshoot its revenue projections, and also with certain budgeted expenditures possibly undershooting, the fiscal space available seems to be improving, although we do not expect any additional fiscal space to result in faster fiscal consolidation," said Bajoria.

As such, according to Barclays estimates, the fiscal deficit for the current fiscal FY24 is still projected to hit 5.9% of GDP, with the medium-term glide path remaining anchored around 4.5% by FY26.

More importantly, the strong dividend transfer would provide a bonanza for core money market liquidity, with the central government eventually using this for its expenditure in the coming months, said a research note by QuantEco Research. "We estimate a cumulative boost of 0.5% of NDTL (net demand and time liabilities) to core liquidity—headline liquidity adjusted for the central government’s cash balances with the central bank."

This will increase core liquidity from 0.7% of NDTL currently to 1.2% in the coming months. While this would be comforting for money market rates, it per se won’t dilute the RBI’s monetary policy stance as core liquidity would continue to remain below the threshold of 1.5% of NDTL, beyond which the RBI regards liquidity conditions as inflationary, the note said.

Long-Lasting Impact Unlikely

On Friday, the RBI also announced a decision to withdraw all Rs 2000-denominated bank notes from circulation by the end of September 2023. Both steps could add a temporary punch to the already improving macro outlook and sentiments, Bhandari said. But neither of the announcements will likely have a long-lasting impact, and continued efforts on inflation control and fiscal management are needed to sustain the improvements in the macro environment, she added.