The Indian government’s difficulty in meeting its fiscal deficit target, at 3.3% of GDP, for the current financial year has been a constant subject of speculation in recent months.
At the end of November, India Ratings, a credit ratings agency owned by Fitch, said that the government would overshoot its fiscal deficit target for 2018-19 by 20 basis points owing to less-than-expected earnings from taxes and its disinvestment programme, following the delayed sale of a majority stake in Air India.
The government has now resorted to controversial measures to is try and ing to plug the shortfall. It is accelerating stake sales and share buybacks at public-sector enterprises and importantly, asking its central bank for the transfer of reserves and a dividend handout. In its Budget for 2018-19, it had earmarked a dividend contribution of ₹548.2 billion from the central bank and state-owned banks.
The government is hopeful of securing an interim dividend from the RBI before the end of the financial year, according to the Indian Express. This will likely be aided by the fact that the central bank’s new governor is likelier to play ball with the government.
While the dividend payout is usually contingent on how much profit the RBI earns in a given year, the reserves it has relate to its capital cushion and accumulate surplus from operations. A possible effect on the central bank of a transfer or a dividend payout is a reduced capacity to borrow.
The issue of the transfer of the central bank’s excess reserves to the government has proven to be a huge sticking point between the Modi administration and the RBI. Ultimately, the previous governor of the central bank, Urjit Patel, resigned amid buzz that the autonomy of the institution was being infringed upon.
However, while many thought that the move would make the central government more amenable to RBI’s independence, it ended up appointing a government insider, Shaktikanta Das, as his replacement. The central bank and the government are currently in the process of establishing a committee to decide on the issue of the sharing of excess reserves.
A number of influential policymakers and thinkers have weighed in on the excess reserves issue. Patel’s predecessor, Raghuram Rajan, recently suggested that the transfer of excess capital to the government would have a negative effect on the RBI’s credit rating. A lower credit rating would make it more expensive for the central bank to borrow funds, which could reduce the money supply in the economy.
While Chief Economic Advisor Arvind Subramanian felt that the central bank was adequately capitalised, he did say last week that the reserves should be used for long-term investment as opposed to meeting the government’s annual financial targets. He even said the deficit financing was tantamount to a “raid” on the RBI’s coffers.