Feb. 16 (Bloomberg) -- India’s budget deficit may be almost double next year’s planned target as the government steps up spending to protect the economy from the global recession ahead of elections in two months.

Spending will rise 6 percent to 9.53 trillion rupees ($196 billion) in the year starting April 1, Foreign Minister Pranab Mukherjee said today without unveiling any tax cuts. That will result in a budget gap of 5.5 percent of gross domestic product by March 31, 2010, compared with a 3 percent target, he said while releasing the interim budget in parliament in New Delhi.

Prime Minister Manmohan Singh’s government says spending to revive the economy is more important now than worrying about the deficit. The budget shortfall may prompt rating companies to lower their assessments of India’s creditworthiness, spooking foreign investors who are already exiting emerging markets.

“A rise in the budget deficit, given the significant negative shock faced by the economy, is warranted,” said Tushar Poddar, a Mumbai-based economist at Goldman Sachs Group Inc. “In the medium-term plan the deficit must be brought down when more normal conditions prevail.”

James McCormack, head of Asia sovereign ratings at Fitch Ratings in Hong Kong, said failure to cut the deficit “could undermine” India’s economic growth prospects and put at risk its ability to continue to attract capital.

India received an annual average $10 billion of foreign investments between 2001 and 2003. Inflows from companies including General Motors Corp. and Royal Dutch Shell Plc. rose to $108 billion in the 12 months to March last year, helping the economy grow at a record average pace of 9.3 percent in the three years to March 2008, Morgan Stanley economist Chetan Ahya said.

Slower Growth

The government has said growth in the current financial year may slow to 7.1 percent, the weakest since 2003, rendering millions jobless. Exporters may cut 10 million jobs by next month, according to the Federation of Indian Export Organisations. The International Labor Office says India’s economy must grow at 10 percent a year to increase employment by one percent.

Prime Minister Singh’s government, seeking re-election in polls that are scheduled to be held in April and May, wrote off 717 billion rupees of farm loans and raised the salaries of 5 million government employees by 21 percent in the past nine months. Since December, it has cut taxes and announced an extra 200 billion rupees of spending to boost the economy.

That’s straining government finances because the economic slowdown is also putting the brakes on tax collections. India’s personal and corporate tax revenue was 2.47 trillion rupees between April and January, compared with a target of 3.65 trillion rupees by March 31, according to the tax department.

Additional Debt

The government last week said it will sell 460 billion rupees of additional debt in the year to March 31, 2009. The government has raised 2.4 trillion rupees through the sale of securities this financial year, compared with the 1.79 trillion rupees budgeted earlier, according to the central bank.

“India’s fiscal dynamics have worsened significantly in the last few months,” said Rajeev Malik, a Singapore-based economist at Macquarie. “It could trigger the wrath of the credit rating agencies.”

Malik estimated the federal government’s budget deficit could touch 8.1 percent of GDP by March 31, 2009, if the government includes bonds sold during the year to subsidize fuel and fertilizer in its books. India regards these bonds as “off- budget” items and doesn’t show them in state accounts.

Fitch last week maintained India’s credit rating at BBB-, its lowest investment grade, because of rising debt that it estimates at about 80 percent of GDP. Standard & Poor’s also places India’s credit rating in its lowest investment category.

New Government

Today’s statement in parliament includes initiatives for the first four months of the fiscal year that starts April 1, as well as spending and revenue estimates for the full year. These figures will be revised when the new government announces its budget after assuming office in May.

Still, Suresh Tendulkar, the top economic adviser to Prime Minister Singh, says “limitations in the fiscal space” put the onus of supporting India’s growth on monetary policy.

India’s central bank kept interest rates unchanged in its scheduled policy review on Jan. 27 after reducing them to an unprecedented low on Jan. 2. The repurchase rate, which has been cut four times since October, is 5.5 percent and the reverse repurchase rate is 4 percent.

“The central bank must see the implications of the borrowing program before it next sets rates,” Tendulkar said. “They have to figure out how to maintain adequate liquidity supply in the economy. My guess is they would review rates after seeing the interim budget.”

To contact the reporter on this story: Cherian Thomas in New Delhi at Cthomas1@bloomberg.net.

Last Updated: February 16, 2009 02:11 EST