The shrinking deficit

[pmaitra]

The shrinking deficit

Amidst the gloom driven by slowing growth and rising inflation, one indicator that has pleased the government is the sharp decline in the current account deficit on India's balance of payments. In a surprise development, India's current account deficit fell sharply to $5.2 billion or 1.2 per cent of GDP during July to September 2013 (Chart 1). In previous quarters, high gold and petroleum imports (Chart 2) had taken the deficit to levels at or above 5 per cent of GDP. During April-June 2013, for example, the deficit stood at $21.8 billion or 4.9 per cent of GDP making capital flows crucial to finance the balance of payments. In most recent quarters gold and petroleum product imports together accounted for close to 50 per cent of India's total imports (Chart 3).

While the decline in the deficit is welcome for a country that only recently experienced a sharp depreciation of its currency and which is faced with the prospect of declining capital inflows as a result of the tapering of the US Federal Reserve's bond-buying policy, it may be too early to take comfort. This is because almost all of the decline in the deficit is on account of a fall in gold imports from its level of $16-18 billion during the three preceding quarters, to just $3.9 billion during the third quarter (July-September) of 2013.

The government would of course claim that the fall in gold imports is on account of its policies, which involved a step-wise increase in the import tariff on imports of gold. The duty, which was set at 2 per cent on January 17 2012, was raised to 4 per cent in the budget or 2012-13, to 6 per cent on January 21, 2013, 8 per cent on June 5 and 10 per cent on August 12, 2013. What is striking, however, is that gold imports remained high till May 2013. Further, estimates based on World Gold Council statistics place India's gold imports in 2013 at 902 tonnes as compared with a lower 860 tonnes in 2012. Duty increases seem to have had effect only with a substantial lag, if at all.

One explanation for the persistence of high imports well after tariffs began to be hiked could be that realising that current account pressures would force the government to act to curb gold imports, dealers and the jewellery industry imported and hoarded excess quantities of the yellow metal. The fact that the government chose not to impose quantitative restrictions but, instead, stuck to raising import duties and imposing a re-export obligation of 20 per cent on importers, facilitated this move. If this was the actual consequence of the government's policy stretched-out duty hike, it is to be expected that once a large hoard has been built up importers would hold back on further imports till stocks are partly cleared. The net result would be a collapse of imports of the kind seen recently. As compared to an average monthly import of 72 tonnes of gold in 2012, and imports of 142 and 161 tonnes respectively in April and May this year, imports in August stood at 3.38 tonnes and that in September at 7.24 tonnes.

The fall in imports is being attributed to the confusion caused by the re-export requirement, and not just the duty hike. But the truth could be otherwise. Further, besides pre-emptive imports to beat the import policy, two other factors could be encouraging the downward trend in imports. One is the expectation that gold prices that have plunged this year after many years of increases, would continue to decline. If the stock position of dealers is good, it may be better to wait for further price falls. Second, expectations are that the government would reverse its tariff duty hikes once inflation indexed bonds catch on as an inflation hedge. Even the central bank governor has declared that smuggling is bound to rise with duties as high as they are and Commerce Minister Anand Sharma has promised a review of gold import norms at an "appropriate time". If duties are likely to fall, imports are best delayed.

If all this proves true, the recent collapse in imports may be just a short-term episode and we could see a return to the high import levels witnessed last year. That would take the current account deficit back to unsustainable levels. What seems absolutely essential is for the government to maintain curbs on official imports of gold, track down and penalise smugglers to limit the practice and also seek out ways of reducing oil and non-gold, non-oil imports. Only then would the vulnerability that characterises India's balance of payments position be truly resolved and sustainability ensured.

Source: The shrinking deficit - The Hindu

 

[parijataka]

Good if true. Here is a counter view though -

Chidu's fiscal fiction: FinMin is busy cooking the books
by R Jagannathan Jan 15, 2014

If P Chidambaram was the CFO of a company in India Inc rather that the finance minister of this country, his own tax officials would not have spared him for cooking the books. Reason: the accounting practices of his ministry are no better than that of crooked corporate scamsters like B Ramalinga Raju of Satyam, who tried to overstate revenues in order to show a healthier bottomline to investors. Chidambaram, as we explained briefly yesterday (14 January), is hoping that the global rating agencies will be as easily fooled as Raju's investors were in 2008 - at least till he demits office in May 2014. Only, of course, we are not going to get a confessional statement of the kind Raju sent to the stock exchanges on 7 January 2009.

The truth is Chidambaram's officials are cooking the national account books - as a report in Business Standard clearly suggests today - in order to show the fiscal deficit figure as staying within his much-ballyhooed 4.8 percent of GDP. They are legally entitled to do so due to an accounting loophole that allows the government to present revenue and expenditure estimates in the budget based on cash already received or spent - not what is accrued or due to be paid out for this year. It may be legal, but the budget numbers would really be a piece of fiction, assuming budgets are intended to be a near-accurate statement of the exchequer's real position or the government's financial health. India Inc's accountants would be hauled up for financial misstatement if income that accrues is not shown as income, and expenses that are due for payment are not deducted from accrued income to arrive at a reasonable bottomline figure that captures the underlying reality. But Chidambaram's officials are in the happy position of treating non-accrued revenues as this year's income, and this year's real costs - oil and fertilier subsidies, for example - as next year's problems. As Business Standard notes: "Much of the additional expenditure is being rolled over to the next financial year, while tax and dividend income to accrue next year is being brought forward into this year's books." Among the bad practices the newspaper mentions in this regard is the allegation that tax officials are asking companies to pay more advance taxes than due and claim a refund next year. The government is also leaning on cash-rich public sector companies to pay huge interim dividends this year when much of it is due only next year after the full-year's accounts are closed and profits realised.

Even as this is being written, Coal India has announced a special dividend payout of Rs 18,317 crore, plus Rs 3,100 crore as dividend tax. This is not just accounting licence, but robs significant revenues from the next government even while denying Coal India some of the internal resources needed for investments in new coal mines. And coal is in severe shortage in India, necessitating costly imports. Chidambaram, as we have noted before, is leaving behind a messed up exchequer and robbed the next government of resources. The Congress party, which has no hope of returning to power in 2014, continues to follow a scorched earth policy.

 

[pmaitra]

@parijataka, this is not a Congress bashing or Modi praising thread, although I understand that is what your general tendency is.

If Modi can reduce the fiscal deficit further, assuming he becomes PM, I will be there to praise him. Let's focus on the technicalities, and the policies, not the persons.

 

[parijataka]

@pmaitra , it has been a standard tactic of political parties (mainly Congress as it was the only national party for at least 4-5 decades) to keep the stock market and the `aam` voter happy in the months before national elections and I see no reason to not disbelieve R Jagannathan !

My father used to say there used to be a sudden spike and fall in sugar prices (this is in the 70's and before) a year or so before Lok Sabha elections - political strongmen having extracted their poll expenses from sugar barons and those in turn passed on to customer. A very simplistic example and not a real comparison but I do believe what Jagannathan writes has some basis in facts !

 

[pmaitra]

They are legally entitled to do so due to an accounting loophole that allows the government to present revenue and expenditure estimates in the budget based on cash already received or spent - not what is accrued or due to be paid out for this year. It may be legal, but the budget numbers would really be a piece of fiction, assuming budgets are intended to be a near-accurate statement of the exchequer's real position or the government's financial health.

This statement is patently misleading, and no, that is not a loophole.

First off, this seems like a classic revenue recognition issue, but before I go further, let me share this:

Definition of 'Revenue Recognition'

An accounting principle under generally accepted accounting principles (GAAP) that determines the specific conditions under which income becomes realized as revenue. Generally, revenue is recognized only when a specific critical event has occurred and the amount of revenue is measurable.

Investopedia explains 'Revenue Recognition'

For most businesses, income is recognized as revenue whenever the company delivers or performs its product or service and receives payment for it. However, there are several situations in which exceptions may apply. For example, if a company's business has a very high rate of product returns, revenue should only be recognized after the return period expires.

Companies can sometimes play around with revenue recognition to make their financial figures look better. For example, if XYZ Corp. wants to hide the fact that it is having a bad year in sales, it may choose to recognize income that has not yet been collected as revenue in order to boost its sales revenue for the year.

Revenue Recognition Definition | Investopedia

Now, let us look at the highlighted part. That is exactly what the Finance Ministry is trying not to do, i.e., the Finance Ministry is playing it fair, and legally.

So, the counterpoint, on this issue, is moot.

 

[parijataka]

@pmaitra, gtg - be back later !

 

[pmaitra]

@pmaitra, gtg - be back later !

Share articles that suggest policies that could help reduce our deficit. This is going to be an interesting topic.