RBI offers Narendra Modi government money to boost growth-- share markets cheer

• RBI said it will transfer as much as ₹1.76 lakh crore of its surplus reserves to the government.
• This will cut the estimated fiscal deficit by half leaving more money with the government to spend on growth measures.
• Sensex gained over 150 points at Tuesday’s open as investors expect additional money supply to improve demand in the economy.

India’s central bank has been saving for a rainy day and looks like that day has come.

After much prodding by the Narendra Modi government, and based on the recommendation of a panel headed by former central bank Governor Bimal Jalan, the Reserve Bank of India (RBI) said it will transfer as much as ₹1.76 lakh crore of its surplus reserves to the government. This alone will fill up more than half of the country’s estimated fiscal deficit-- the difference between the government’s budgeted expenses and revenues-- for the current year.

"This will help to some extent in bridging an estimated ₹1.5 lakh crore of shortfall in GST revenues even as the fiscal continues to be strained due to weak tax revenues," said a report by Kotak Economics Research.

The Indian share market is celebrating the windfall that it expects more money slush around in the economy due to the RBI move.

The Sensex kicked off to a good start and opened 164 points higher in Tuesday’s opening trade. This is in addition to the nearly 800-point Donald Trump-triggered rally on Monday. Banking stocks like SBI, Axis Bank, and ICICI gained as as investors hoped that some of this additional money will go into recapitalising banks. The value of government bonds held by these banks rose in value.

“As on June 30, 2019, the RBI stands as a central bank with one of the highest levels of financial resilience globally,” the central bank said in its statement.


Why the market is cheering?

Indian industry has long been asking for a stimulus package from the government, to overcome the deep crisis in the rural economy as well as in sectors like automobiles and textiles, which have cut down production and laid off millions of workers following the demand slump in recent years.

Those who support the RBI move to part with its funds believe this money can come in handy for the Indian government which is facing heavy fiscal deficit, which means that it is short of funds and has limited room to spend more to stop growth from slipping down further.

The Modi government has also promised to spend a whopping ₹100 trillion in building new infrastructure in the next five years. Finance Minister Nirmala Sitharaman also promised to provide as much as ₹70,000 crore in additional funds to banks in the hope to beat the current credit crunch.

All of this requires money, which the government is in short supply of. The slowdown in economic activity has meant the direct tax revenue has sharply slowed down.

The Goods and Services Tax (GST) too has fared short of expectations. along with a slowdown across the economy has cut down the government's direct tax revenues by ₹82,000 crore though they revised their target to ₹12 lakh crore in 2018-19.

A recent move to levy extra taxes on stock investors in the latest Union Budget did not go down well with the share market, and had to be retracted by Finance Minister Nirmala Sitharaman last Friday (August 23).


Those who lost their jobs opposing the move

The government’s push to get RBI to transfer excess money has faced severe opposition. The dissent by former Secretary of the Department of Economic Affairs, Subhash Chandra Garg, was one of the main reasons for which he was forced out the Finance Ministry prematurely.

Even the former RBI Governor Urjit Patel and former Deputy Governor Viral Acharya left the central bank unceremoniously after contentious standoffs with the government over many issues including the proposal to transfer RBI surplus to the government.

Economists in India have been largely divided on the issue because many fear this impedes the RBI’s autonomy. The key questions were who should decide the use of RBI surplus and how should it be spent.

The recommendation of an independent panel may partly answer the first question and as for the second question, all eyes are now on the government.

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A bitter debate may hound Finance Minister Nirmala Sitharaman in the first fortnight-- what to do with RBI's surplus reserves