The Reserve Bank of India (RBI) is set to transfer an unprecedented Rs. 2.11 lakh crore as a dividend to the Indian government for the fiscal year 2023-24.
This figure is more than 2.5x of the Rs. 84,000 crore projected in the interim budget. And, 3x more than the average dividend paid by RBI to the government over the last four years.
TL;DR: The unprecedented sum is expected to provide a huge fiscal advantage to the government - enabling it to continue boosting capex, while also focusing on fiscal prudence.
Why Should I Care?
As you must have noticed, the current government is big on spending. Capital expenditure is the money that is spent on building assets - highways, trains, power plants, and all that stuff. India’s capex in 2024-25 is projected to increase to a whopping Rs. 11 lakh crore, which is almost 4.5x of that in 2014-15.
However, this ability to spend has to come from somewhere - revenue that the government get from tax collections, the profits that PSUs make, and most popularly borrowings. Usually growing economies end up spending more than they make, resulting in fiscal deficit.
India’s fiscal deficit is projected at 5.1% of GDP for 2024-25, up from 2.9% in 2014-15. While the government is spending money to boost the economy, India’s debt is also growing. Over the last 10 years, India’s market borrowings too have gone up (by 2.2x), projected at Rs. 14 lakh crore in 2024-25, up from 6.5 lakh crore in 2014-15.
How Does this Benefit the Government?
The inflow of Rs. 2.11 lakh crore will give the government extra money, and open up several options:
Increase capex spend - Increasing capex could foster long-term economic growth and boost the economy further
Cut fiscal deficit - By keeping spending steady, the money could be used to reduce deficit and even decrease borrowings, reducing India’s borrowing costs and the deficit - a rather prudent approach
Give free money - The government can also choose to increase spending, but in the form of subsidies or populist measures. However, it risks stoking inflation, which would conflict with the RBI’s efforts to control price levels
What Next?
We think, the government could take a more balanced approach. Signs of this were already seen in the interim budget announced in February. The government did increase its capex spend plans to Rs. 11 lakh crore. However, this signified 11% growth compared to the previous year, much lower than the 30% growth seen in capex budget previously.
The government could increase spending (albeit at a lower rate), and manage to also work on reducing the deficit - thereby achieving prudent growth.
What’s the Impact on the Markets?
Debt market - The influx of this substantial dividend is expected to exert downward pressure on government bond yields. Lower yields on sovereign bonds typically result in reduced borrowing costs across the board, affecting loans and corporate bonds too. Lower yields typically also result in higher bond prices, or capital appreciation.
Equity market - For the stock markets, the anticipated decline in bond yields is good news. Lower yields typically enhance the appeal of equities, as investors seek higher returns in a low-interest-rate environment. This could lead to a surge in stock prices, benefiting investors and potentially boosting market confidence.
The RBI’s record dividend transfer to the government marks a significant fiscal event with wide-ranging implications. The government’s decision on how to utilise this windfall will shape the economic landscape, influencing the fiscal deficit, bond yields, and market dynamics.
Whether the government uses this windfall to reduce the fiscal deficit or to increase spending, both scenarios present a positive outlook for equity markets.
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