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Friday, Jul 09, 2004

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Continuance of economic reforms

Amit Tandon

THE Budget proposals for financial year 2004-05 signal continuation of economic reforms even as it outlines a thrust on agriculture and social spending in line with the policy priorities of the new Government.

Importantly, the Budget seeks to carry forward the process of fiscal consolidation by maintaining the Budget estimate for fiscal deficit in financial year 2004-05 at 4.4 per cent of the Gross Domestic Product (GDP), which is at the same level as outlined in the Interim Budget earlier this year.

Even so, the Government seeks to extend the deadline for elimination of the Revenue Deficit by one year to financial year 2008-09 by amending the Fiscal Responsibility and Budget Management (FRBM) Act, which requires the elimination to be complete by financial year 2007-08. While Fitch does not view this extension to be unduly concerning in itself, it cautions against such extensions becoming habitual, which would defeat the objective of fiscal consolidation sought under the FRBM Act.

The reference to disinvestment and privatisation as `useful economic tools' in the Budget speech would seem to signal the Government's flexible approach in moving ahead in these areas, as exemplified by National Thermal Power Corporation (NTPC), which expects to issue equity in the domestic market. While continuity in the process of disinvestment is likely to be ensured, Fitch expects the progress under the new set-up to be less substantial than the target announced by the previous Government.

The announcement on the hike in FDI ceilings in telecom, civil aviation and insurance sectors is encouraging and indicates that the Government is prepared to be flexible on this count. Fitch also welcomes the focus on investments in airport, seaport and tourism infrastructure, which can be expected to drive overall economic growth. The elimination of the long-term capital gains tax and introduction of turnover tax appears to be aimed at improved collection efficiency and better compliance.

The expenditure proposals in the Budget have a clear focus on agriculture and rural infrastructure. While a large part of the Government's agriculture and social spending is to be routed through Government-owned financial institutions (such as NABARD), commercial banks (both public and private) are expected to contribute to the `doubling of agricultural credit in three years'.

While the focus on increasing the flow of resources to agriculture and the rural economy is commendable, Fitch cautions that the process should be guided by considerations of prudence and financial discipline if it is not to affect the asset quality in the banking system.

The Government's decision to amend the SARFAESI Act to incorporate judicial concerns, while speeding up the recovery efforts of the lenders, is a positive for the banking system and would appear to remove apprehensions on potential dilution of creditor's rights. Fitch also welcomes the Government's decision to set up a Task Force to recommend reforms in the co-operative banking sector, including the appropriate regulatory regime, which has been a long-standing demand of market participants, including Fitch.

Although comprising numerous small entities, the co-operative banking sector has an important share of the financial system but remains weak and inadequately regulated. Measures to improve the health of the co-operative banking sector would aid stability in the financial sector.

(The author is Managing Director, Fitch Ratings.)

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