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Thursday December 18, 07:10 PM
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Inflation slows, government ups spending
By Manoj Kumar and Rajkumar Ray
NEW DELHI (Reuters) - The government beefed up its plan for extra spending to stimulate the economy and counter the impact of the global slowdown, just as inflation fell more sharply than expected in a sign of faltering activity.
Bond yields tumbled as market expectations of interest rate cuts gathered steam after inflation dropped to its lowest in nine months, with the benchmark yield plummeting more than 30 basis points to a 4-1/2 year low.
Policy makers have slashed rates and cut duties to shore up growth in Asia's third-largest economy, and on Thursday the Congress party-led coalition asked parliament for 424.8 billion rupees ($9 billion) in extra spending for the fiscal year ending in March.
The amount was more than the 200 billion rupees first mooted earlier in the month but included about 125 billion rupees for food and fertiliser subsidies on top of spending for rural jobs, roads, housing and a textile industry hit by easing exports.
Analysts said it was hard to gauge what was productive, fresh expenditure rather than ongoing subsidies, with only 49 billion rupees for textiles and rural jobs seeming to offer direct stimulus.
But they expected there would be an impact on borrowing.
"We expect continual thrust on the fiscal spending as the government is relying more and more on the fiscal part," said Sachchidanand Shukla, economist at ENAM Securities in Mumbai.
"And this will be through market borrowing, which will crowd out private investments and put pressure on (market) interest rates."
Economists say India's scope for a fiscal boost falls far short of neighbouring China as its combined state and central deficit is expected to top 7 percent of gross domestic product this financial year. The plan, first announced 11 days ago, also includes tax and duty cuts to boost demand.
N.R. Bhanumurthy, economist at the Institute of Economic Growth in New Delhi, said it was hard to judge how effective fiscal stimulus packages would be and India's was no exception.
"Definitely, we may have to do much more than what they have done today," he said.
GROWING EXPECTATIONS FOR LOWER RATES
The central bank has made a slew of interest rate cuts since mid-October to lift growth, which is expected to slow to about 7 percent this year from 9 percent in 2007/08 as a result of high borrowing costs and the global financial crisis.
India's economy was expected to escape the worst of the turmoil around the world, but data is consistently pointing to a more severe slowdown than many expected.
Car sales have slumped, while exports shrank for the first time in nearly three years in October, a month that saw factory output record its first contraction in more than 13 years, worrying a government hoping to be re-elected next year.
It faces national elections by May and the head of the Congress party, Sonia Gandhi, said in terms of the economy, the next few months were not going to be easy even though inflation was falling.
"The stimulus package is important to keep growth going," she said.
The benchmark stock index ended 3.7 percent up at its highest for more than a month after news of the extra fiscal stimulus and the data showing inflation falling below 7 percent, the central bank's goal for the fiscal year end in March.
The 10-year federal bond yield initially see-sawed as the inflation and spending numbers emerged.
It then dipped to 5.46 percent, after a finance ministry official predicted easing price pressures would lead to interest rate cuts, and ended trade down 30 basis points at 5.50 percent.
The wholesale price index , India's most widely watched inflation measure, rose 6.84 percent in the 12 months to Dec. 6, sharply below the previous week's 8 percent and lower than a Reuters estimate of 7.49 percent.
"I think the RBI will go for aggressive moves. I expect a rate cut either this month or early January," said D.K. Joshi, principal economist at rating agency CRISIL, referring to the Reserve Bank of India.
Annual inflation peaked at 12.91 percent in early August but the central bank has cut its main lending rate by 250 basis points to 6.5 percent since mid-October and reduced banks' cash reserve requirements to try to unfreeze India's credit markets.
The fuel component of the index showed a steep drop, helped by falling prices of oil globally and a cut in government-set retail prices of petrol and diesel from Dec. 6.
(Additional reporting by Boby Michael in MUMBAI and Nigam Prusty and C.J. Kuncheria in NEW DELHI)
