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Exclusive: Austerity in India - Defense and welfare spending to be slashed

By Manoj Kumar

NEW DELHI (Reuters) - India's finance minister is putting welfare, defence and road projects on the chopping block in a last-ditch attempt to hit a tough fiscal deficit target by March, risking short-term economic growth and angering cabinet colleagues.

The cuts will reduce spending by about 1.1 trillion Indian rupees ($20.6 billion) in the current financial year, some 8 percent of budgeted outlay, or roughly 1 percent of estimated gross domestic product, two senior finance ministry officials and a senior government adviser told Reuters.

It is the first time the scale of the cuts and details of where the axe will fall have been made public, with officials revealing startling details about delays to arms purchases and belt-tightening for politically sensitive rural welfare schemes in an election year.

Finance Minister P. Chidambaram has staked his reputation on lowering the deficit to 5.3 percent of GDP to improve the investment climate following ratings agency threats to downgrade to junk India's sovereign debt if action was not taken.

After a series of investor-friendly reforms and small steps to reduce fuel subsidies, he has now turned firepower on big-spending colleagues, some of whom are pushing back, worried cuts will hit voters ahead of a national election due in early 2014.

"Every ministry is affected by the budget cuts. We are trying hard to get as much money as possible," said a senior official in the road transport ministry, who declined to be named because of the sensitivity of the issue.

A drop-off in investment, hurting growth, is blamed in part on public spending that is funded through market borrowing crowding out the private sector.

Policymakers say getting India's finances in order will give private players room to borrow and the confidence to invest.

"With fiscal discipline, what will happen is that there will be larger money with the private sector, which can be used for the growth," said B.K. Chaturvedi, a senior adviser to the government on infrastructure spending.

Chidambaram will officially report the revised spending figures for 2012/13 when he presents next year's budget to parliament on February 28.

"It is I who have done the math, the deficit will remain below 5.3 percent this year, next year it will be below 4.8 percent. I am not going to cross these red lines," Chidambaram told Reuters in an interview on Tuesday.

His attention has turned to spending because revenue has dropped. The economy is on track to grow about 5.6 percent this year, the lowest rate for a decade, and the government is struggling to raise $10 billion in hoped-for windfall cash from partial privatisations and mobile spectrum sales.

The government had originally targeted a fiscal deficit of 5.1 percent in the current financial year, but loosened the target in October. It was 5.8 percent in 2011/12.

JAVELIN SLOWED?

The impact of measures to cut bloated subsidies will mostly not be felt this fiscal year, which runs to the end of March.

"We are estimating a budget cut of 1.1 trillion rupees ($20.6 billion) as an outer limit. However, the final picture will be clear by March 15 when we have a clear idea about tax collections and the fuel subsidy bill," said a senior finance ministry official, who declined to be named.

A senior official at the defence ministry -- the world's biggest arms importer in recent years -- said a $1.9 billion cut there could delay efforts to buy howitzer guns and Javelin anti-tank missiles from the United States by at least few months.

"The Indian army would be hit hard due to budget cuts," said the official, noting that a defence deal worth more $12 billion for procuring 126 jet fighters from France's Rafale was already delayed by at least three months.

Up to $4 billion will be lost at the rural development ministry, which has the largest budget after defence, hitting spending on roads, housing, and the government's flagship rural job-guarantee program, a senior official in the ministry said.

Top officials at the finance, transport, rural development ministries and a government body on spending said ministries were likely to get 20-30 percent less funds for assets and projects such as roads, power, rural housing, jobs and shipping.

RISK OF DEEPENING SLOWDOWN

Critics warn that at a time of low growth, lower spending risks deepening the slowdown without helping the deficit-to-GDP ratio, a problem familiar to the austerity-racked economies of Europe.

Chidambaram's cuts mainly affect capital investment and he has avoided attacking government wage bills and subsidy spending known in India as "non-plan expenditure".

Even so, powerful ministers have protested about the impact lower spending will have.

Jairam Ramesh, Rural Development Minister and a close confidant of Rahul Gandhi, the ruling Congress party's likely candidate for prime minister in next year's vote, wrote to Chidambaram asking for a review of the cuts to rural welfare.

"Both Prime Minister and you have spoken about the need for fiscal consolidation, but not at the cost of our social priorities," a government source said, reading from the letter to the finance ministry.

Congress draws support from India's rural majority and a second-term victory in 2009 was partly due to a scheme guaranteeing work to the country's poor, along with a $13 billion farm debt waiver introduced by Chidambaram.

Abheek Barua, chief economist at HDFC Bank, India's second largest private lender, recognized the need to lower the deficit but said the cuts would hit the investment cycle and short-term demand and damage a drive to improve creaking infrastructure.

"Ideally the government should have cut non-planned expenditure such as subsidies," he said. "It also fails to a address the supply bottlenecks leading to inflationary pressures."

The finance minister was backed by Prime Minister Manmohan Singh and influential adviser Montek Singh Ahluwalia in a series of meetings with government officials, two officials privy to the agenda of the meetings said. Congress party leaders have publicly given backing to fiscal consolidation in recent days.

Harvard-educated Chidambaram has promised to provide enough funds for the government's flagship programs -- food security, rural jobs, village roads, health and education in the budget -- once he succeeds in improving the government deficit this year.

India earmarked $97 billion for spending on such projects out of the $278 billion budget for the current fiscal year.

The finance ministry has also imposed a ban on hiring in ministries, meetings at luxury hotels, the purchase of new vehicles and places some restrictions on foreign tours.

($1 = 53.3950 Indian rupees)

(Additional reporting by Nigam Prusty; Editing by Frank Jack Daniel and Alex Richardson)

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