India’s economic growth masks a potential squeeze of fiscal space

A decline in nominal GDP growth would constrain the scope for stimulus action by the Centre as it seeks to reduce its debt

- NIRANJAN RAJADHYAKSHA

The first estimates of Indian economic growth during the ongoing financial year were released on 7 January. They have provided reasons for cheer as well as concern. The cheer comes from the fact that the economy is expected to grow in real terms at a brisk 7.4% despite a difficult international situation. The concern comes from the fact that the growth in nominal gross domestic product (GDP) is likely to be a tepid 8%, the lowest rate since the financial year ended 31 March 2003. The slim difference of 0.6 percentage points between these two measures of economic momentum is explained by a collapse in the GDP deflator, a measure of inflation used by government statisticians to squeeze out the effect of price increases to arrive at the growth in real output.

This very low nominal GDP growth rate has profound implications for Indian fiscal policy, even as finance minister Nirmala Sitharaman prepares to present the new Union budget on 1 February. The finance minister had announced last year that India would have a new fiscal policy framework under which the main aim would be to bring down the ratio of public debt to GDP over the medium term. The annual budgetary balance would be the instrument used to achieve that aim. This is broadly similar to the approach that the Reserve Bank of India takes. It seeks to keep inflation close to target through changes in the interest rate. For those with taste for jargon, the annual fiscal deficit is now the intermediate policy target, while the public debt to GDP ratio is the final target.