India must monetise deficit to aid private investment: CII

New Delhi: India should monetise its burgeoning fiscal deficit to aid private investment and boost the slowing economy, despite risks of inflation and sovereign downgrades, a top industry body said on Tuesday.

The country's consolidated fiscal deficit, including state deficits and off-budget items, may rise to 10 per cent of the gross domestic product and financing this gap could crowd out private borrowings and keep interest rates hard, analysts say.

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India will sell a record 2.4 trillion rupees of debt by September, two-thirds of its full-year target, and fears government spending will overshoot have sent benchmark bond yields spiking and undermined the efficacy of deep rate cuts by the central bank in recent months.

"Monetising the deficit and improving the currency flow is very important," Confederation of Indian Industry's (CII) president Venu Srinivasan told reporters at a news conference.

"Otherwise what happens with such a high level of deficit is you'll find investment drying up in the country .. If borrowing does not take place, investment does not take place, economic growth won't take place also."

Despite the Reserve Bank of India's cuts in policy rates and reserve requirements of banks, credit to the industry was scarce and expensive, Srinivasan said.

India's key short-term interest rate is at an eight-and-half year low of 5.5 per cent, but outstanding loans have grown a mere 5.8 per cent in the last six months, central bank data shows

India's growth in 2008/09 is expected at 7 per cent or lower, compared with 9 per cent or more in the past three years. Some have pegged growth in 2009/10 at as low as 6 per cent.

Currently, the law prohibits the central bank from buying debt directly from the government, and on Monday, Deputy Governor Rakesh Mohan said private placement of such debt ought to be avoided.

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Srinivas said the monetising of the deficit could stoke inflation and prompt sovereign rating downgrades, but it was an acceptable risk and the government should return to the path of fiscal prudence once the global economy revived.

"You will have a risk of greater inflation but at the same time you'll give the economy a boost," he said. "In the medium term, fiscal prudence has to come back."

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