Should monetary policy be used to target financial stability?

Mint, April 2, 2023 (with Harsh Vardhan)

The recent financial market turmoil in the US triggered by the collapse of the Silicon Valley Bank has raised questions about the impact of the US Fed’s monetary policy on the stability of the banking system. More generally it has brought back to fore a fundamental question that central banks all over the world have been grappling with for a while now – should financial stability be given priority over inflation in the conduct of monetary policy? There is no easy answer to this as both problems are serious.

This issue is of crucial importance for India as well. It has been less than a decade since the Reserve Bank of India adopted inflation targeting as its monetary policy framework and under IT, the primary goal of monetary policy is achieving price stability. Expecting monetary policy to also keep an eye on financial stability, will distract attention from the central bank’s legally mandated objective, and may lead to destabilising outcomes for the economy in general.

There are some practical as well as conceptual problems in making financial stability an objective of monetary policy.

First of all, it is difficult to define financial stability. We can only see financial sector instability when it manifests for example through the failure of a systemically important bank, or the bursting of an asset price bubble, but before such an event occurs, we cannot precisely describe what is financial sector stability. Moreover, there are various institutions in the financial system involving a large number of participants that interact with each other thereby creating a complex, interconnected network. Within this system, sources of financial instability can be varied. We have seen financial instability occurring due to failures of banks, insurance companies, pension funds or mutual funds, and we have seen crises in the stock market and bond market. Ex-ante, it is often difficult to identify the specific part of this vast, complex network where a risk is building up.

Also, once instability occurs in any part of this network, given the interconnectedness, it can spread through the entire system leading to what is commonly known as contagion. It is difficult to predict whether an event of financial instability will indeed trigger a contagion, how rapidly the contagion will spread through the system or what impact it will have on different parts of the network.

Secondly, given that financial stability is difficult to define, it is also hard to measure. Often financial sector regulators use "stress tests" to assess the resilience of the system under various scenarios. Problem is that they only test for risks that they are worried about. There are many other risks beyond the obvious ones and typically those are the ones that get financial institutions into trouble, all the more making financial stability difficult to measure.

Monetary policy works best when it has clearly defined objectives and quantitative targets that guide its formulation. Given the challenges of defining and measuring, it is difficult for monetary policy to target financial stability as compared to price stability which can be both defined as well as measured. In India, for example, the IT framework clearly lays out the goal of the RBI’s monetary policy as achieving a 4% CPI (consumer price index) target. Such a clear, quantitative target is inconceivable when it comes to financial stability.

Finally, and most importantly, policymaking must be guided by the Tinbergen principle which conceives of economic policy as the relation between instruments and goals. It stipulates that the number of achievable goals is limited by the number of available policy instruments. Under the inflation targeting framework, the repo rate in India (or the Fed funds rate in the US) must be used to target inflation. It is therefore best to find another tool to address financial stability so that the Tinbergen principle can be applied.

So if monetary policy is not the answer, then what can be done to address financial instability?

Some have argued that central banks can inject liquidity to safeguard financial instability. There are three problems with this. First, injecting liquidity only makes sense when the underlying problem is illiquidity, say an irrational run against a bank with safe but illiquid assets (such as a loan to a profitable factory). But this is hardly ever the case. Usually, as in the case of SVB, runs occur because banks are insolvent i.e. the value of their assets has fallen below the value of their liabilities. In such a situation, the only solution is to inject capital. Injecting liquidity can in fact make matters worse because it enables more people to flee the ailing bank(s), thereby increasing -- not reducing – panic.

Secondly, liquidity can be a temporary solution in situations involving a credit freeze and, it may help restore confidence in the system. But it is like calling the fire brigade in the event of a fire; it is needed to douse the fire but does not help prevent future fires.

Third, addressing instability using liquidity may also mean keeping the system flooded with excess liquidity for a long time which in turn may endanger price stability.

Broad based financial stability can be achieved only by improving governance standards, and establishing strong supervisory oversight over the concerned institutions to help avoid the build-up of risks. The SVB collapse, like the Global Financial Crisis of 2008, reflected a colossal failure of governance and supervision.

In summary, in the short run, the solution to financial instability is capital; in the long run, it is better governance and supervision. Monetary policy would then be free to pursue its "natural target": price stability.

In the case of India on the other hand, price stability is a pressing concern. CPI inflation has been higher than the RBI's target level of 4% for a while now and in particular, core inflation has been remarkably stubborn at 6% for a long period of time. Hence, as the RBI gears up to announce its monetary policy decision on April 6, it needs to retain its focus on lowering the CPI inflation to the target level. The US Fed may have slowed down the pace of rate hikes in view of the latest financial market turmoil but that should not distract the RBI from prioritising domestic macroeconomic stability and inflation control.

3 potential problems for India's economy

Times of India, March 21, 2023

If 2022 was the year of “heightened global uncertainty”, this year is proving to be no different. Until last week, the US financial system seemed resilient to the aggressive interest rate hikes of the Federal Reserve. That perception has now been shattered. With the collapse of as many as three banks, including the Silicon Valley Bank (SVB) which was the 16th largest bank in the country, cracks have started showing in the US banking system, triggering fears of a possible financial contagion. The macroeconomic repercussions will be felt far away in India, even if our banking system does not immediately face the same kind of problems. How might the US situation play out, and what does it imply for the Indian economy?

The genesis of the SVB episode can be traced to the decisions of the US Federal Reserve during the pandemic period. The Fed lowered interest rates close to zero and injected vast amounts of liquidity. Banks consequently received large volumes of deposits and, invested them in treasury bonds. This meant that many banks, like SVB, whose loans books are much smaller in comparison to their deposits, became dependent on the treasury bonds for earning returns.

This became a problem when the Fed started aggressively raising rates in 2022 in its fight against inflation. As interest rates go up, bond prices fall. As a result, SVB began incurring losses on its bond portfolio. Sensing problems, depositors began withdrawing money from SVB—a classic case of a bank run, which led to its eventual collapse.

The problem, however, is far broader than just SVB. Any bank which has a smaller loan book, a bigger deposit base, and a large portfolio of treasury bonds now faces similar risk. In fact, US banks are currently sitting on an estimated $600 billion in potential losses owing to the erosion of their bond portfolios, on a capital base of $2 trillion. In other words, interest rate risk has eroded about 30 percent of the capital base. Within this aggregate, the distribution varies considerably, with midsize banks facing significantly higher capital erosion, which is why they have been facing runs in recent days.

This has put the Fed on the horns of a dilemma. If it sticks to its current strategy of raising interest rates to curtail inflation, bond losses will only increase, putting more stress on vulnerable banks. Alternatively, the Fed could pause or even start reducing rates, thereby relieving the stress on the banks, but at the cost of worsening the inflation problem. In other words, the important question for the US economy now is: will growing concerns of financial stability deter the Fed from pursuing its goal of price stability?

Irrespective of what the Fed decides, there will still be difficulties for India.

In particular, investors will remain very cautious, and will continue to doubt the financial stability of the midsize US banks – as we have seen over the past week. Things may get even more complicated if there are bank failures in the European Union. EU banks are vulnerable to similar risks given that the ECB has been tightening monetary policy as well. Already, fears of a contagion were running high when Credit Suisse, one of the systemically important banks at a global level, began witnessing rapid fall in its share prices last week. This eventually led to a takeover of the bank by rival UBS, a move orchestrated to calm the financial markets.

Any further bank failure could trigger a system-wide panic, and push depositors away from smaller banks to bigger, more diversified banks thereby precipitating more bank-runs. The resultant uncertainty would lead to heightened risk aversion.

In such an environment of risk aversion, there is typically a flight to safety. This will have important implications for India. There will be a surge in demand for “safe” assets such as gold etc., while the currencies of emerging economies like the Indian rupee will come under pressure as foreign investors flee these markets. The rupee has depreciated a fair bit in the last one year and, this trend may continue.

In addition, risk aversion is likely to dampen sentiments in the US, at a time when concerns about an impending slowdown have already persisted for a while. This may lead to a decline in credit growth and hence consumption, given that a large part of the US consumption is credit-fueled. Simply put, financial market turmoil might cause people to hold back spending. If this takes too severe a shape, then the US economy could fall into a recession, thereby hampering India’s growth prospects through the exports channel. Exports bailed out the Indian economy during the pandemic, but they have now stopped growing and, the situation is likely to worsen if the US goes into a recession.

Finally, if the Fed abandons its fight against inflation, this too will be problematic for India because we end up importing high inflation from the countries we trade with. This would aggravate domestic inflation, at a time when it is already running at 6.5 percent, well above the Reserve Bank of India’s 4 percent target.

The Indian economy has experienced a stuttering recovery from the pandemic. Its medium- term growth outlook remains weak, because private investment continues to be sluggish, exports are declining, consumption demand is lackluster and, the fiscal situation is overstretched. Now, the shockwaves from the banking crisis in the developed world are likely to create further headwinds for India’s growth.

We should consequently gear up for another year of volatility, amidst growing global uncertainty.

SVB crisis has brought the trade-off between price stability and financial stability back into focus

(with Harsh Vardhan), MoneyControl, March 17, 2023

Just as it seemed the world had come to terms with a certain level of uncertainty that was triggered last year by the US Fed tightening monetary policy, the Russia-Ukraine war and the Covid resurgence in China, a new source of uncertainty sprang up over the last few days—financial stability concerns in the US economy as manifested through the collapse of the Silicon Valley Bank (SVB). The shock reverberated through the US stock market with shares of several banks plunging. Some European banks have begun experiencing steep losses in share prices as well. For India, the relevant questions are: can something like this happen here, and what lessons can we learn from this saga?

Several analysts and commentators in India have written extensively about this episode. The general consensus seems to be that, thanks to the business model of Indian banks, the regulatory oversight of the RBI, relatively gradual monetary tightening in India compared to the US, and careful management of the yield curve by the RBI, an event like this is unlikely to occur in Indian banking.

While that may be true, this episode nonetheless offers some important lessons for Indian banking and its regulation.

Market risk in banks: This episode is a rare one where a bank collapsed due to market risk and not credit risk i.e. not due to a rise in non-performing loans, something we have witnessed frequently in India. The total marked to market losses that US banks are currently sitting on owing to the fall in the value of the government bonds in their portfolios, are estimated to be $600 billion on a capital base of $2 trillion, thereby implying that market risk has eroded about 30% of the capital base of US banks. Generally, In India we do not pay adequate attention to market risk in banks. But banks are steadily increasing their holding of bonds (see here: https://www.moneycontrol.com/news/opinion/why-banks-are-buying-more-bonds-6139661.html) which enhances their exposure to market risk. It is high time we started looking at this risk carefully.

Swift resolution: It was remarkable to see the speed with which the authorities acted to resolve the SVB crisis. Within a matter of days, the Fed and the FDIC (Federal Deposit Insurance Corporation) stepped in, evaluated the situation, and reopened the bank under a modified name. The bank is now being auctioned off and will be sold shortly. FDIC also publicly announced that they would bail out all the depositors.

Quick action is critical in the resolution of financial entities to restore public confidence, and prevent a contagion. It requires clearly laid-out laws, and protocols and also institutions empowered to implement them. Else, each resolution is dealt with on a sui generis basis and could lead to inefficient outcomes as is often the case in India. While we now have a bankruptcy law for non-financial companies, we do not yet have a well-defined law for resolution of financial entities. It is also important to note that the FDIC followed the expected pecking order of loss absorptions – they wiped out equity holders, followed by bond holders and saved the depositors. Contrast this with the Yes Bank resolution in India where AT1 bond-holders were written down before equity.

Moral hazard: One action taken by the FDIC however may offer lesson of what not to do. They announced that they would bail out not only the 7% secured depositors, but also the uninsured depositors.

In case of a bank failure, deposit insurance is meant to safeguard the deposits of small investors. Large depositors whose deposits are beyond the threshold stipulated in the deposit insurance schemes ($2,50,000 in the case of SVB) are expected to be “informed” depositors who should take into account the robustness of the bank before making a deposit. Such depositors are expected to bear the risk of the bank defaulting. Bailing out these depositors as if they were insured, creates a “moral hazard” problem. It creates expectations among the uninsured depositors of similar institutions that they too will be bailed out if such a situation arises. It generates an illusion of implicit government guarantee for all depositors.

Age of social media: As the depositors started shifting out of the bank, SVB had to sell some of its bonds to repay them, but in doing so it incurred losses since the bonds had lost value with rising interest rates. The size of this loss and the potential for future losses in relation to its capital doomed the bank and created the perfect recipe for a “bank run”. Once panic spread in social media about the bank’s stability, this ensured that the run happened very quickly, before the bank or the authorities had any time to react. Some commentators have rightly called it a “Twitter” driven collapse. This exposes the vulnerability of banks to such attacks in the era of social media.

Over and above these lessons for Indian banking, this episode has once again brought to focus the old issue of the trade-off between price stability and financial stability, and how should central banks deal with this. The roots of the SVB collapse lie in the policy decisions taken during the pandemic, when the US Fed first injected abundant liquidity into the system, and then aggressively raised interest rates to fight inflation.

The crucial question therefore is: should a monetary authority (for example, the Fed or the RBI) take financial stability into account when setting its monetary policy or be guided by the mandated objectives of inflation control and economic growth? The SVB episode is likely to reignite the debate on this issue.

Budget 2023-24: Fiscally conservative but lacking economic strategy

Budget 2023-24: Fiscally conservative but lacking economic strategy, Ideas for India, February 27, 2023.

The price pinch

Indian Express, February 16, 2023

Inflation is proving to be the Achilles Heel in the Indian economy’s recovery from the pandemic and subsequent global disruptions. After softening for three consecutive months, it spiked again in January. The Reserve Bank of India has been playing the part of an inflation targeting central bank over the last few months, raising interest rates in an attempt to rein in inflation. However the fight to bring inflation down is clearly far from over. The latest inflation data also raises the question if the RBI doing enough.

The inflation targeting framework mandates the RBI to achieve a CPI (consumer price index) inflation target of 4 percent. During the pandemic period of March 2020 to September 2021, CPI inflation averaged 5.9 percent. This was higher than the point target of 4 percent but still within the inflation targeting band of 2-6 percent. Since then, however, the inflation outlook has been worsening.

In 2022, CPI inflation was above the upper threshold of the RBI’s targeting band for 10 consecutive months which meant that the target was not achieved for three quarters in a row. Inflation began softening towards the later part of the year. By December 2022, CPI inflation was down to 5.7 percent. This led many to believe that the inflation peak had passed, and that inflation was on its way to the official target.

This optimism was misplaced. Underlying inflationary pressures still persist. The softening of inflation in November and December 2022 was largely driven by a steep fall in vegetable prices. Excluding vegetables, CPI inflation was infact more than 7 percent. The misplaced optimism has now become evident. The January 2023 CPI inflation came out to be 6.5 percent, once again crossing the upper threshold of the RBI’s inflation targeting band.

The risks to inflation outlook that have continued unabated over the last few months have contributed to the latest spike in inflation as well.

First, with food accounting for 46 percent of the overall CPI basket, a rise in food inflation from roughly 4 percent in December 2022 to almost 6 percent in January 2023 has played an important role in overall inflation going up. Within food, one component that has proved rather stubborn is cereal inflation. Between May and December 2022, year on year cereal inflation nearly doubled from 5 percent to 14 percent. In January 2023, this increased to 16 percent. Within cereals, inflation in wheat has been steadily going up. Between May and December 2022, wheat inflation increased from 9 percent to 22 percent. It increased even further to 25 percent in January 2023.

The steep rise in wheat prices reflects shortages. Data from the Food Corporation of India shows that stocks in government warehouses declined from 33 million tonnes in January 2022 to 17 million tonnes in January 2023. The government has recently approved a release of 3 million tonnes in the open market. However this is insufficient to restore market supplies. Given that the next harvest will not be ready till April, and government stocks in February are further down to 15 million tonnes, this source of inflationary pressure is likely to persist for a while.

Secondly, core (non-food, non-fuel) inflation in January came out to be 6.2 percent. This is consistent with the unyielding core inflation of 6 percent for nearly three years now. A persistently high core inflation implies that price pressures have become entrenched in the system. Part of this can be explained by the continued pass-through of high input prices to final goods prices. Interestingly this is happening even when WPI (wholesale price index) inflation, which reflects input prices, has come down from a high of 16 percent in May 2022 to less than 5 percent in January 2023. This implies that with margins getting squeezed and profitability suffering, firms are spreading out the pass-through over a longer time period. This makes the core inflation trajectory uncertain.

Finally, external factors have a role to play as well. Inflation in developed countries continues to be high (6.4 percent in US; 8.5 percent in EU; 10.5 percent in UK). India is importing some of this elevated inflation through international trade in goods and services. Moreover, with China gradually opening up its economy after nearly three years of Zero-Covid restrictions, commodity prices are likely to go up which could exert renewed pressures on India’s inflation.

What have the policymakers been doing to address the inflationary concerns?

The government has done its bit by announcing a conservative Union Budget for 2023-24. It has accorded primacy to much needed fiscal consolidation, and has refrained from announcing populist measures which could have arguably fuelled demand, and hence inflation.

The RBI has been doing its job as well. It increased the policy repo rate from a pandemic-low of 4 percent to 6.5 percent in a span of 10 months. It has also adopted a hawkish tone as was evident from its latest monetary policy statement. Unlike last year when despite rising inflation, the monetary policy statements did not contain any forward guidance, in its February 2023 statement, the RBI emphasised the importance to "remain alert on inflation", thereby hinting that the monetary tightening cycle is not over yet. Is there anything else that the central bank can do?

Having missed the inflation target for three consecutive quarters in 2022, the RBI had to submit a report to the government describing a plan of action which would help bring inflation down. The law does not require either the RBI or the government to disclose the contents of this report publicly. However, given that inflation is proving to be difficult to rein in, and that the 4 percent target is not likely to be achieved next year either, releasing the report to especially highlight the remedial actions that the RBI plans to undertake might help stabilise inflation expectations, and facilitate the central bank’s own endeavour to fight inflation.

A credible glide path to bring inflation down to the target level is of critical importance particularly now with the national elections around the corner.

RBI needs to remain vigilant on inflation

Hindustan Times, February 6, 2023

Now that the Finance Minister has presented the Union Budget which is neither populist nor expansionary, all eyes will be on the Reserve Bank of India as it gets ready to announce the monetary policy on February 8. Inflation in India seems to be on a downward trajectory from the high levels it had reached in the first half of 2022. Yet the RBI must be cautious about taking its foot off the pedal as far as taming inflation is concerned.

The RBI has been following an inflation targeting framework for conducting monetary policy since 2016. The framework mandates the RBI to achieve a CPI (consumer price index) inflation target of 4 percent. For the most part of calendar year 2022, CPI inflation averaged at 6.9 percent. The inflation target was not achieved for 10 consecutive months in 2022.

From October onwards inflation seems to have been declining. The average CPI inflation in November and December came down to 5.8 percent. This means that inflation is now back within the RBI’s tolerance band. This is a positive development not only because inflation seems to be moving towards the 4 percent target but also because high inflation disrupts macroeconomic stability.

However this recent decline should not be interpreted to mean that inflation has ceased to be a problem. There are four main reasons why risks to inflation persist.

First, while headline inflation has come down, core inflation (non-food, non-fuel) has been quite stubborn. In December 2022, core inflation was 6.2 percent, same as the full-year average. Infact core inflation has been sticky around 6 percent for almost three years now—from April 2020 to December 2022. Persistent core inflation implies that price pressures have become embedded in the system.

There may have been three phases that can help explain the core inflation dynamics. In the first phase, once the pandemic hit India, and widespread mobility restrictions were introduced, supply chain bottlenecks became intense, services were shut, goods and labour were hard to come by. This started putting upward pressure on core inflation. In the second phase, as the land war broke out in Europe in February 2022, input prices skyrocketed and manufacturing firms began passing on the higher costs to consumers. We can then think of a third phase, when commodity prices began easing thereby softening the input price pressures on the producers but services began actively normalising. For two years the services sector could not adjust wages and prices. Now that the economy has fully opened up, they are having to pay higher wages to workers to compensate them for the price increases that occurred while they were away, and are adjusting prices accordingly. This is keeping the core inflation high.

Apart from core inflation, cereal prices have been steadily going up. Between May and December 2022, cereal inflation more than doubled. Within cereals, inflation in wheat went up drastically from 9 percent in May to 22 percent in December, while inflation in rice increased from 3 percent to 10 percent during the same period. Food accounts for 46 percent of the overall CPI basket and within the broader food-group, non-perishables such as cereals, spices etc., have almost a 37 percent weight. This means that these items determine the underlying trend in CPI food inflation. Non-perishables inflation increased from 5 percent in November to more than 8 percent in December 2022, reaching the highest level in more than two years. In fact, much of the decline in overall CPI inflation both in November and December was driven by perishables such as vegetables which registered a steep fall in prices. Excluding vegetables, CPI inflation increased to 7.2 percent.

Third, while inflation in the developed world has also been coming down, it is still quite high. Inflation in the US was 6.5 percent in December, while inflation in the European Union as well as the UK remains more than 9 percent. Through the channel of international trade in goods and services, India continues to import this high inflation.

Finally, as China opens up after three years of Covid-related restrictions, recovery of its economy from a growth slump is likely to exert upward pressure on commodity prices, given that China accounts for a large share of global commodity demand. This may fuel inflationary pressures in India which imports commodities.

What should therefore be done by the policymakers?

The government seems to have done its bit. With nine state assembly elections scheduled between now and January 2024, and the country going into general elections in 2024, the apprehension was that the government would announce a slew of populist measures in the Union Budget presented on February 2nd. This would not only disrupt fiscal consolidation, it could also aggravate inflation. Strikingly enough, the government has not given in to populist demand pressures. It has announced a steep increase in capital expenditure which is undoubtedly a demand stimulus but a lot will depend on implementation.

Now the ball is in the RBI’s court. It needs to remain vigilant on inflation. While the central bank has been tightening monetary policy from May 2022 onwards increasing the repo rate to 6.25 percent, it now needs to clearly indicate when it expects inflation to reach the target level of 4 percent, and what its plan of action is to bring this about, particularly to break the persistence of the core inflation.

A low, and stable inflation generates macroeconomic stability and creates a favourable environment for growth. On the other hand, high, sustained inflation hurts the poorer sections of the society the most and can have a detrimental political effect in an election year.

An uncertain fiscal math

Indian Express, February 2, 2023

It is helpful to think of the Union Budget as satisfying two important objectives--growth, and stability. Depending on the state of the economy and availability of fiscal resources, electoral compulsions etc, a given Budget is either more growth-oriented or stability-oriented. Which category does the Union Budget of 2023-24 fall into?

The Union Budget is an annual statement of the government’s income and expenditure. From that standpoint, this Budget was a critical one, for two main reasons. First, for several years the government has been struggling to spend within its means and the fiscal deficit had been increasing. In the pre-pandemic year of 2019-10, the fiscal deficit of the central government alone was more than 4.5 percent of GDP, much higher than the 3 percent medium term target set by the Fiscal Responsibility and Budget Management (FRBM) Act. During the pandemic period, the deficit shot up first to 9.2 percent of GDP in 2020-21, and then to 6.9 percent in 2021-22. Such high levels of fiscal deficit raise concerns about macroeconomic stability, and can be detrimental to the economy’s growth. Hence all eyes were on the Budget this time to see whether the government would continue on the path of fiscal consolidation that it had embarked upon in 2022-23.

Secondly, this was the last full-year budget before the country goes into general elections in 2024. There was a general apprehension that the government would throw caution in the wind, and use the budget to announce populist schemes for specific electoral constituencies.

Instead, the Budget was a relatively conservative one. It refrained from populist measures, and projected a fiscal deficit of 5.9 percent for 2023-24, implying a 0.5 percent reduction from this year’s deficit. From this perspective, it sounds like a stability-oriented budget.

The important question to ask is, how credible is the fiscal consolidation path? Three points are worth noting in this context.

First, the Budget adhered to the fiscal deficit target of 6.4 percent for 2022-23. This was facilitated by the government’s conservative estimates of nominal GDP growth and gross tax revenues for 2022-23. As the economy normalised from the pandemic, both nominal GDP growth and tax revenues exceeded the government’s expectations. In particular, GST (goods and services tax) revenue was boosted by two main factors: an increase in sales of luxury goods which carry higher tax rates, and a big jump in imports. Both these maybe considered one-off shocks. Nominal GDP also received a boost from rising inflation. In 2023-24, as the economy slows down owing to global headwinds and weak domestic demand, and as inflation cools off, it is plausible that tax revenue growth will be lower than the Budget estimate, and nominal GDP growth will be less than the estimated 10.5 percent.

Secondly, while total non-debt revenue for 2023-24 is projected to be around Rs 27 lakh crore, tax revenue is projected to be around Rs 23 lakh crore. This implies that Rs 4 lakh crore must come from non-tax sources. This seems ambitious. For example, the Budget has set a disinvestment target of Rs 51,000 crore. Given that the disinvestment receipts in 2022-23 are unlikely to be anywhere close to the target, it is not clear how the target for 2023-24 can be achieved, especially in a year when economic growth is predicted to slow down, both domestically as well as globally.

Third, given the decline in global commodity prices, the government will incur some savings in 2023-24 on account of its subsidy bill. And some more savings have been budgeted on account of reduction in current expenditure. Using this savings to bring down the fiscal deficit would have made sense. But the Budget has also announced a steep increase in capital expenditure. This raises questions about the credibility of the fiscal math. Moreover it also raises questions about what fraction of the expenditure burden is being passed on to the states. It is important to note that ultimately what matters from a macro stability perspective is the consolidated fiscal deficit of both the centre and the states.

On the growth front, the Budget announced a 33 percent increase in capital expenditure. The objective, like last time, is to “crowd-in” private investment. While many would applaud this sustained capex push, it is problematic for two reasons.

First, it maybe argued that the increased capex spending by the government since last year has not resulted in the desired “crowding-in” of private sector investment which continues to be sluggish.

Second, and more importantly, the capex increase conveys a worrisome message. The government clearly feels compelled to do the heavy lifting of investing and boosting demand in the economy because the private sector is not investing in capacity expansion. This is deeply concerning because for an emerging economy like India to grow at 5-6 percent, and more importantly, to create the jobs required to absorb the millions of young people entering into the labour force every year, it is imperative that the private sector starts investing on a large scale.

The other important driver of growth is exports. While the Budget did announce several customs duty reductions, these were primarily aimed at reversing the inverted duty structure (i.e. higher duties on imported inputs but lower duties on imported finished goods), and it also announced several customs duty increases. The Budget also does not contain any major steps to roll back the protectionist policies the government has been implementing over the last few years.

In summary, only time will tell what impact the “growth” measures announced in the Budget will have on the economy, and while the Budget seems to have ticked the right boxes on “stability”, it lacks clarity on how this stability will be achieved.