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Indian yields were higher in the first week of February, but the currency remains stable against the dollar following the RBI decision to leave rates unchanged. Earlier in the week, the finance ministry released their spending budget, which might not be large enough to buoy demand. Spending will be focused on healthcare in the wake of the spread of the coronavirus pandemic. There will also be a large chunk of the budget that goes to infrastructure projects.
Government Spending Increased
India unveiled its budget to a lot of fanfare in the first week of February. The government’s estimated increase in spending for 2020-21 maybe only 17.3% and not 28.4% as projected by the government. This amount of the expenditure is unlikely to generate demand, according to the Centre for Monitoring Indian Economy. The Indian government had budgeted payment of Rs 30.4 lakh crore in 2020-21 raised to Rs 34.5 lakh crore in the revised estimates, while the spending in 2019-20 stood at Rs 26.9 lakh crore.
Finance minister Nirmala Sitharaman announced higher capital expenditure for the FY 2021-22 and focused on providing a significant boost to healthcare and infrastructure building. Unfortunately, Covid-19 has contracted the Indian GDP and has sent unemployment soaring and added to the banking sector’s distress.
The finance ministry plans to generate a budget for critical areas such as healthcare and infrastructure to spur economic activity. Given that there are no increase indirect taxes, this exacerbates India’s delicate fiscal position. India’s fiscal deficit, calculated by evaluating the gap between its revenue and expenditure, is set to rise to 9.5%, the highest since the country opened its markets to the world in 1991.
For 2021-22, the Indian deficit targets 6.8%, significantly higher than the consensus estimate of 5.6%. Most of the spending will be on health care in the wake of the COVID-19 pandemic. Health spending is up by 137%. At just over $30 billion, India’s overall health budget has more than doubled. This increase in healthcare spending is a massive boost for India’s health sector, which has long been underfunded, receiving just about 1.3% of GDP.
The Reserve Bank of India Leaves Rate Unchanged
The Reserve Bank of India kept short-term interest rates unchanged despite the need for monetary policy stimulus following the government’s attempt to spur demand using fiscal stimulus. Unfortunately, with Indian inflation as high as 4.6% in December, little RBI can do without further buoying inflation.
The Reserve Bank of India left their short-term repurchase rate unchanged at 4% and kept its reverse repo at 3.35%. Economists and traders widely expected the move by the RBI. Ahead of the monetary policy decision, Indian 10-year yields rallied 20-basis points in line with the global rally in yields. Despite the large move in long term Indian yields, the Rupee remained unchanged. This lack of movement by the Indian currency is likely because the interest differential between the Indian yields and the US yields were stable as the US 10-year yield also rallied substantially during the week. The Indian government has continued to purchase dollars and sell Rupees, and the increase in reserves has helped the Rupee remain stable while the dollar rallied.
The Bottom Line
The lack of monetary policy stimulus in conjunction with a relatively mild increase in fiscal spending will not drive demand. The Indian economy will need more substantial stimulus in the wake of the COVID-19 pandemic. While Indian yields shot up in the first week of February, forex trading of the Rupee has been lackluster as the Rupee held up well in the face of a dollar rally.
