Reforms & deficit: Catch 22 situation for govt

Tue, 16 Oct Pre-Open

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After Pranab Mukherjee became the president of India, P Chidambaram took charge of the finance portfolio. And just within 11 weeks of resuming office he doled out a series of reforms that saw BSE-Sensex surge 8% within such a short span of time. Some of these game changing reforms like Foreign Direct Investment (FDI) in pension, retail and airline sector will attract foreign capital into India. And it is evident from the fact that, since the reform announcement approximately US$7.7 bn have already flown into the country.

Thus, to that extent he has been successful in reviving the stock markets. However, it would be interesting to see how he deals with the twin problems of deficit and inflation.

As far as the deficit problem is concerned, government is already taking steps in that regards. For instance, it recently raised prices of diesel and capped LPG subsidy. However, the agenda of improving the fiscal deficit by cutting subsidies could backfire. For one, it is likely to fuel inflation which is already in a higher territory. More than that attaining fiscal prudence by cutting subsidies is detrimental to the government as it might lose its vote bank. Remember, that the Lok Sabha elections are due in 2014. Thus, burdening people with higher prices when elections are nearing could be fatal.

So, the government is actually in a fix now. If it continues with its reform drive to pump equity markets it may encounter friction with its coalition partners. That's because they are deeming these moves as 'anti-people'. For instance, Mamata Banerjee withdrew her support after government raised diesel prices and opened up the retail sector to foreign investment. On the other hand if it plans to cut the subsidy burden and improve its fiscal position there is a fear of losing vote bank.

So, the government has to effectively balance both the reform and deficit agenda's effectively. While it has done well on the reform front, the deficit reduction measure could have its own implications. But we believe that the government still has about year and half to dole out populist measures and win vote bank. And people generally remember the goodies of recent past while exercising their franchise. Nonetheless, we believe it will be difficult for the Congress Party to regain power for the third time in a row.