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Higher Borrowing Cost Could Dent Nascent Growth Recovery, Says HSBC’s Pranjul Bhandari

Higher corporate borrowings costs and squeezing out of SMEs could hurt growth, cautions HSBC’s Pranjul Bhandari

A worker arranges a sheet of veneer at a plywood manufacturing workshop in Muzaffarpur, Bihar, India (Photographer: Prashanth Vishwanathan/Bloomberg)Q
A worker arranges a sheet of veneer at a plywood manufacturing workshop in Muzaffarpur, Bihar, India (Photographer: Prashanth Vishwanathan/Bloomberg)Q

The Indian economy is just starting to rebound from the twin shocks of demonetisation and the Goods and Services Tax. Quarterly GDP growth, which had fallen to 5.7 percent in the first quarter of 2017-18, rebounded to 6.3 percent in the second quarter and is expected to pick-up further in the third and fourth quarters.

At a time when a tentative recovery has begun, higher borrowing costs driven by fears of a wider central government fiscal deficit, would be counter-productive, said Pranjul Bhandari, chief India economist at HSBC. It’s a year to be conservative rather than profligate, said Bhandari in an interview with BloombergQuint while explaining that macroeconomic indicators, which have looked stable for the last two years, have started to slowly reverse as oil prices rise.

It’s a very delicate year and any kind of fiscal adventurism during this kind of year may not be very palatable. Last couple of years we have benefited from lower oil prices. Oil prices are rising now to $65-75 per barrel. It’s reversing a lot of the macro gains. Inflation is rising, the twin deficits are widening.
Pranjul Bhandari, Chief India Economist, HSBC

At a time like this, if the Indian government decides to run a higher deficit than promised, it will not be taken well by macro stability watchers, cautioned Bhandari.

Bond markets have already signaled their discomfort with the prospect of a fiscal deficit higher than the targeted 3.2 percent of GDP this year. The 10-year bond yield has risen by nearly 100 basis points since July when the GST was rolled out. Yields rose further after the government announced additional gross borrowings of Rs 50,000 crore for the year. This amount was later revised lower to Rs 20,000 crore after tepid demand at the first two auctions of the 2018. Despite that the 10-year bond yield remains elevated at 7.25 percent – 125 basis points above the RBI’s benchmark repo rate of 6 percent.

Corporate bond yields have also risen in response. An index of the 3-year AAA corporate bond yield complied by India’s Fixed Income, Money Markets & Derivatives Association (FIMMDA) has risen by close to 70 basis points since July.

“It’s very clear to anyone who watches this data, that high 10-year bond yields lead to higher corporate bond yields and squeeze that section out,” said Bhandari while adding that small and medium enterprises also suffer if the government borrows more from the markets.

Small industries don’t have access to capital markets or foreign funds and they completely rely on the banking sector. If the government dis-saves by running a higher fiscal deficit, it just squeezes out the pot which is available to MSMEs.
Pranjul Bhandari, Chief India Economist, HSBC
Higher Borrowing Cost Could Dent Nascent Growth Recovery, Says HSBC’s Pranjul Bhandari

Near Term Hit To Growth?

Bhandari does not believe that fiscal consolidation will necessarily mean lower government spending, which, in turn, could hurt growth. If the government manages to improve GST collections through better compliance in the new fiscal year, funds would be available to support stressed segments of the economy, such as the rural sector. It’s possible but the one piece of the puzzle that has to fit is GST revenues, said Bhandari.

The government collected Rs 80,808 crore GST for November as on Dec. 25, according to data released by the Ministry of Finance. That compared with Rs 83,346 crore collected in October, Rs 92,150 crore in September, Rs 90,669 crore in August, and Rs 92,283 crore in July, according to statements issued by the ministry.

“You really have to get the GST revenues flowing quickly,” said Bhandari. If that happens, the government could spend as per plan.

Government spending supported growth in the last fiscal year but that support has started to wane, show recent data released. The advance estimates for FY18 GDP growth show that government spending is expected to grow by 8.5 percent in the current fiscal compared to 20.8 percent last year. This at a time when growth in consumption is expected to slow marginally and investment is seen picking up modestly.

According to Bhandari, tax and policy certainty is one element to revive investment.

Some of my previous work has shown that the investment cycle responds positively to a very certain tax and policy environment. If the government does not change things around too much and stays away from macro policy shocks, like the ones we have seen in the past 12 months, I think that will do very well for growth and investment revival.
Pranjul Bhandari, Chief India Economist, HSBC
Higher Borrowing Cost Could Dent Nascent Growth Recovery, Says HSBC’s Pranjul Bhandari

Watch the full interview below