In the last few days, domestic stock markets have a new concern — falling GST collections. Even though oil prices have eased and the Indian rupee has gained strength against the US dollar, the new GST worry has kept markets from turning outright buoyant. Since the February 1 Union Budget is just a few weeks away, many market participants have been concerned about GST and its effect on government finances.
The Goods and Services Tax has been a controversial tax reform. While it has totally changed the tax picture of India and eased the way taxes were collected, it has so far met with weak compliance and not too-happy taxpayers. The worries around GST collections have been renewed after revenue collection from GST fell to Rs 94,726 crore in December from Rs 97,637 crore a month ago, as per data released by the finance ministry on January 1. Is the monthly drop the real worry? No. The actual worry is that GST collections for the 2018-19 financial year are unlikely to meet the budgetary target of over Rs 1 lakh crore per month. If there is no alternative support to plug the GST hole, the fiscal deficit will rise. But, how should a stock market investor interpret all this? Read on to find out.
Like all big economic reforms, GST began with a flourish. But it also encountered niggling worries as the entire system had to be rebooted to fit in the GST regime. Do remember these are still early days as the tax came into effect only from July 1, 2017. While the tax replaced existing multiple cascading taxes levied by the central and state governments, more than a year after its implementation the GST is a very much a ‘work in progress’. From an economic point of view, GST like any other tax is a source of revenue for the government. GST collections crossed the Rs 1 lakh crore-mark not once, but twice this year. But, the figures have not been consistently high. Also, the government has rationalised tax rates in many items, which may result in lower collections in the future. Some reports have pegged the GST shortfall between Rs 60,000 crore and Rs 1 lakh crore in 2018-19. The actual number will be disclosed only after the financial year is over.
Falling GST or indirect collections do not immediately mean a bigger fiscal deficit. A drop in GST revenues is not necessarily bad if the government is able to shore up revenues elsewhere, or cut expenses. The provisional figures of direct tax collections up to November 2018, show that gross collections were at Rs 6.75 lakh crore which is 15.7% higher than the gross collections for the corresponding period of last year. The net direct tax collections represent 48 per cent of the total budget estimates of direct taxes for the financial year 2018-19 (Rs 11.50 lakh crore). If direct taxes rise substantially, the GST scare doing rounds will quickly evaporate.
The disinvestment route is also a potent route to raise money. Data from the department of investment and public management (DIPAM) shows that the government has so far raised over Rs 34,100 crore against the budgeted target of Rs 80,000 crore from share sale in state-run firms. About Rs 14,000 crore can come from PFC acquiring REC and another Rs 10,000 crore from PSU share buybacks and other offerings, and up to Rs 3,000 crore from an ETF offering. The government is also eyeing funds from some strategic sales.
While the government tries to raise money from taxes and disinvestments, it can also consider going slow on expenses. Cutting expenses can be a way of lowering capital expenditure for the year. Another way could be that the government rolls over spending on account of subsidies to next year. Till that happens, fears of a fiscal slippage will persist, with the government’s fiscal deficit having risen to 115 per cent of the budget estimate for FY2019 in the first eight months of the year. But market participants should not forget that there is always a seasonal pickup in tax revenues in the last quarter of every fiscal.
Even if one were to assume that tax collections do not improve and there is a higher fiscal deficit, markets are already preparing the ground for a higher-than-the-budgeted fiscal deficit. Fiscal deficit at 3.5 per cent of the gross domestic product instead of budgeted 3.3 per cent will not be looked down upon as if some crime has been committed. The fixed income markets have already started preparing for a higher fiscal deficit as can be seen in the yield movement. The 10-year G-Sec yield has inched up to 7.45 per cent on January 4, 2019 from 7.22 per cent levels on December 19, 2018.
Real versus reel
All eyes are on the 32nd GST Council meeting scheduled for January 10, 2019 after the recently concluded meeting on December 22, 2018. In the 31st GST Council meeting, there was a rate rationalisation on about 23 goods and services. There are expectations of more cuts given that this may be one of two last meetings before a likely vote-on-account Budget is presented by finance minister Arun Jaitley in February.
Investors and consumers must understand the implications of a high fiscal deficit. It is usually said that a high fiscal deficit leads to higher inflation. If the fiscal deficit indeed rises from 3.3 per cent to 3.5 per cent, the impact on inflation would be limited given the current level price rise. The wholesale price index (WPI) based inflation fell to 4.64 per cent in November 2018 from a level of 5.28 per cent in October. A small rise in inflation would not make things hugely unaffordable for the consumer. Yes, for the equity market investor, a rise in inflation is not good given that it might compel the RBI to think about tinkering with interest rates. This could further push bond yields and increase the cost of money. But, it is unlikely that the RBI would raise rates knowing fully the negative effects of higher interest on corporate and individual borrowing.
A higher fiscal deficit is also said to be a precursor for higher taxes. Why? It is simple: a high fiscal deficit means the government is not able to earn as much as it is spending. So, to change this, the government raises taxes in some form or the other. However, given the macroeconomic situation, it is unlikely that the government will like to raise taxes. Also, given the upcoming Lok Sabha elections, it is unlikely that the government would effect the politically unpopular move of hiking tax rates.
If indeed India’s fiscal deficit comes at 3.5 per cent of GDP, this would not be a shock for most. At 3.5 per cent, the fiscal deficit would be at the same level it has been for two previous years (FY17 and FY18). Do note that the fiscal deficit numbers have been higher in the previous years. The fiscal deficit number was at 5.7 per cent of GDP in 2011-12, 4.8 per cent in 2012-13 and 4.5 per cent in 2013-14. India’s fiscal deficit in the past 10 years (based on actuals) has hovered between 3.5 per cent and 6.4 per cent of nominal GDP.
While it is critical for the government to stick to its path of fiscal consolidation in the last year of its five-year term and not give in to populist temptations, all hell would not break loose if the deficit number finally stays at 3.5 per cent. It is unlikely that India’s sovereign ratings would face any action if the fiscal deficit number finally comes around 3.4-3.5 per cent.
In a nut-shell, despite concerted efforts to raise revenue from sources like GST, if the government is unable to meet the 3.3 per cent fiscal deficit target, stock markets will not be deeply disappointed. It is only if the deficit figure crosses the 3.5 per cent mark, will there be any major negative implication.
The author is a financial journalist with 14 years of experience