FY14 CAD may be 4% of GDP; fisc deficit at 5%: Moody's

The domestic cause of currency volatility that is the current account deficit seems to be in better condition now, says Atsi Sheth, Moody's Investors Service. Though the rupee might see some volatility ahead, but it would only arise from fear around Fed tapering and any other global risk aversion, she says. She sees the current account deficit come down to 4 percent from 4.8 percent of GDP in the previous year.

Also Read: See FY14 GDP growth 5.3%; high inflation a worry: PMEAC
She warns that the high inflation could do a lot of damage to both growth as well as savings. And though world over the only way of tackling inflation is the monetary policy, but it will have very limited impact here, considering the key driver of inflation in India is food inflation, she says. "Over the long-term India remains very vulnerable to food inflation and from our perspective that is a key negative," says Sheth.
She feels fiscal deficit will come in at 5 percent of GDP this fiscal year. She says in India it is the revenue trajectory that determines where the fiscal deficit goes and since growth has been decelerating over the last three years, there has been an impact on revenues.
On the growth front, she anticipates very slow recovery, definitely not a V-shaped one. She sees real GDP growth at 4.5 percent this year and expects it to inch up to 5 percent next year. She has a 'stable' outlook on rating because of the structure of the government debt, which is in rupee, domestically funded and long-term in nature, which means currency volatility won't have an impact. Below is the verbatim transcript of Atsi Sheth's interview on CNBC-TV18 Q: Do you think Indian rupee has passed its worst in terms of problems or do you think the rupee is vulnerable?
A: Currency depreciation had two causes; one was India on current account deficit, which had been widening steadily over the last couple of years and that widening seems to have reversed over the last couple of months. So, that aspect, the rise in gold imports and the oil imports that have driven up the current account deficit, seems to have alleviated a bit, which will provide some support. However, the other aspect of currency depreciation which is fear around tapering on any other global risk aversion that could arise, that of course is unpredictable and that could rise from time to time. So, I do think that you will see some rupee volatility but at least the domestic aspect of that volatility is somewhat reversed. Q: What are you working with in terms of a current account deficit for the current year; do you think the problem is under control for a goodish bit or just under control for this year?
A: We have a fairly conservative estimate. We estimate that the current account deficit, which was about 4.8 percent last year will come down to about 4 percent and I do believe that the consensus is that it will improve even more. At this point, we do not think we have a visibility to say that. So we are saying 4 percent this year and next year that is FY15, I think it depends on global export recovery which seems to be incipient, if that happens then I think India’s current account deficit will benefit. Q: Coming to the other issue which is perhaps stubborn, the inflation number. What is the trajectory you are charting for inflation - both consumer price index (CPI) and wholesale price index (WPI)?
A: We said several months ago that in our view inflation is a key negative credit driver at this point in India, the economy and that is for a couple of reasons. First, its impact on purchasing power for consumer whether rural or urban, it has an impact on input cost for producers. So, it does slow down domestic demand. High inflation keeps interest rates high as you have seen. So, that's another factor that keeps domestic growth down and third, when you have high inflation, of course it inhabits savings because the value of your savings goes down and for India the high interest rates have been a key source of credit support and as of now India’s savings rates remains higher than its globally rated peers. However, if inflation continues at this pace, I think you would have a detrimental effect on savings as well.
So, both from the growth side as well as from the savings side, inflation could do a lot of damage. I do think that the way to address inflation the world over has been monetary policy and that is happening in India. However, on the other side the food inflation which is the key driver, monetary policy cannot address that, maybe the fact that drought is now behind India, will have a beneficial effect but over the long-term India remains very vulnerable to food inflation and from our perspective that is a key negative. Q: Shifting focus to fiscal deficit, what would your forecast be and do you think enough is being done?
A: In terms of fiscal deficit we do think that it will come in around 5 percent; that is central government’s deficit that you are focused on and the general government deficit which we focus on, we think it will come in closer to 8 percent of gross domestic product (GDP). However, that is fairly high number.
We have always believed that the fiscal deficit depends on growth. The Indian government does not have that much flexibility to cut its expenditure both because of the nature of the way those expenditures are organised and of course because of India’s political economy; there is a lot of social pressure that supports expenditure and those are hard to cut down. So, given that we believe that it’s a revenue trajectory that determines where the fiscal deficit goes and since growth has been decelerating over the last three years, you have seen the effect on revenues. We think you will continue to see that effect on revenues and there is very little that fiscal policy can do about revenue growth at this point. So, what can be done is a cut down in capital expenditures and that is exactly what the government has been doing for the last couple of years and we expect that will be the way in which the deficit will be managed.
As to your second point, a loose fiscal policy, something that feeds inflation for the medium-term yes, it certainly is, because what fiscal policy does is it supports demand growth but does very little to support supply growth and as a result the gap between demand and supply widens and you have inflation but I do not think it is something that began in the last couple of years. This has been ongoing for several years and therefore will take several years to fix the impact of fiscal policy.