Goods and Services Tax (GST) India‘s most ambitious indirect tax reform would replace existing state and central levies with a uniform tax, boosting revenue collection while cutting business transaction costs. GST, which could boost India’s economy by up to two percentage points, has so far faced resistance from various states, including those governed by the BJP who fear a loss of their fiscal powers.

The BJP aims to address state concerns and implement GST in an “appropriate timeframe”. The Congress party would back the reform in opposition, a senior party member told Reuters earlier this month. The reform needs broad backing because it requires a change in the constitution.

Central bank policies A Reserve Bank of India panel in January proposed key changes including targeting consumer price inflation and making a committee responsible for monetary policy, and not the RBI Governor alone.

This would require changes to the RBI Act. The BJP top brass has not spoken widely on the issue, but it will likely be a tough sell for RBI Governor Raghuram Rajan. He has the backing of some global agencies like the International Monetary Fund. Modi’s government may also look to eventually separate the debt management function from the RBI, on the grounds that debt management sometimes conflicts with the central bank’s monetary policy stance.

Privatisation The new government is likely to focus on selling its holdings in state-run firms that could raise much-needed revenues to trim India’s ballooning fiscal deficit and boost economic growth.

The rising stock market helped New Delhi raise more than $3 billion (Rs. 18,000 crore at 60 rupees per dollar) via stake sales in the fiscal year to March 31 – but that was only a third of the government’s original target. The outgoing government announced plans to raise Rs. 56,900 crore through asset sales in 2014-15.

This could help achieve a lower fiscal deficit target of 4.1 per cent of GDP. These estimates may be revised by the next government.

Subsidies Modi’s government needs to examine how it subsidizes basic commodities if it is to contain the fiscal deficit and avoid a ratings downgrade. Subsidies cost an estimated 2.2 per cent of India’s GDP in 2013-14. The BJP in its manifesto said it will seek greater fiscal discipline without compromising on the availability of funds for development.

Labor The BJP wants to reform labor laws to boost job-intensive manufacturing and create as many as 1 crore jobs a year for young Indians entering the workforce. Changing the law would be politically tricky, though, and Modi may seek to encourage competition between India’s states to boost job creation.

Defense More foreign investment in defense would help India reduce imports, modernize weapons systems and speed up deliveries of hardware it needs for operations and training. India, the world’s biggest arms importer, now allows 26 per cent foreign ownership in defense, and proposals to exceed that limit are considered only for stateof- the-art technology. The BJP has said it would allow some greater foreign investment in defense industries.

Insurance Attempts to raise the cap on foreign investment in India’s $45 billion (Rs. 2.70 lakh crore) insurance sector, to 49 per cent from 26 per cent, have met resistance from employees at statecontrolled insurers and their political backers. A BJP leader said in March the party had held talks with Congress to break the deadlock.

Banking The next government will need to help staterun lenders battling rising bad loans caused by the slowing economy, rising interest rates and project delays. Stressed loans in India – either bad or restructured – total $100 billion (Rs. 6 lakh crore), or about 10 per cent of all loans. Fitch Ratings expects that ratio to reach 14 per cent by March 2015. Rising bad loans threaten to choke the gradual recovery in Asia’s third-largest economy, according to the OECD. The interim budget in February set aside Rs. 11,200 crore to help the sector meet key capital ratios, but analysts say more money is needed.

Power A BJP-led government may implement the socalled Gujarat model of distributing electricity that has been widely praised for delivering reliable 24-hour power supplies in the state. Modi provided different power feeds to farmers, households, and companies instead of a uniform feed in his home state.

Gas pricing In January, India notified the new gas pricing formula that could double the prices of locally produced gas from April 1, but the poll regulator stopped the government from raising the prices until the elections are over. Reliance Industries and its partners BP and Niko Resources last week issued a notice of arbitration to the government seeking implementation of higher gas prices. The BJP-led government may review the formula on the lines suggested by a senior party leader last year and announce the date of implementation of new prices.

OTHER CHALLENGES

A landslide election victory for Narendra Modi‘s Bharatiya Janata Party (BJP) has created euphoria in India’s financial markets, driving shares to life-time highs and the rupee to its strongest level against the dollar in 11 months. After a decade in opposition, the BJP has promised to repair an economy growing at its weakest rate since the 1980s and tackle stubbornly high inflation. However, the most urgent challenges facing the government, from a large budget deficit to concerns that the El Nino could devastate agricultural output, have no easy solutions.

DELIVERING A BUDGET THAT LIMITS THE DEFICIT

Modi’s government will face its first credibility test with markets when it delivers a budget by July that will need to convince investors that India can realistically contain its fiscal deficit.

To meet a deficit target of 4.6 percent of gross domestic product (GDP) for the year that ended in March, the outgoing government cut spending by $13 billion and pushed about $16 billion in subsidy costs into the New Year.

That austerity could prove hard to sustain. Spending accounts for 11 percent of GDP, offering a critical growth lever. Continuing to defer payments to state-run companies that would compensate them for selling fuel, fertilizer and food below market prices can create havoc with their finances and make them rely on borrowing to fund operations.

Meanwhile, tax revenues are unlikely to recover immediately in a weak economy. The government’s tax-to-GDP ratio has slipped to 10.2 percent from a peak of 12.5 percent in 2007/08.

The interim budget of the outgoing government in February was greeted with widespread skepticism. It sought, for example, to contain the fiscal deficit at 4.1 percent of GDP in 2014/15, the lowest in seven years, while keeping spending growth at just 10.9 percent compared to a recent average of about 15 percent.

Standard & Poor’s has a negative outlook on its “BBB-minus” rating for India, and has said the new government’s policy agenda will determine whether India can avert a downgrade to “junk” status.

NARROWING THE CURRENT ACCOUNT DEFICIT

A sharp narrowing of the current account deficit, to under 2 percent of GDP in 2013/14 from a record high of 4.8 percent the previous year, was helped by steps to curb gold imports.

Higher duties and other restrictions almost halved gold imports, but the moves have been deeply unpopular. Gold smuggling surged after the measures, casting doubt on reported data.

The BJP promised to review gold import duties within three months of coming to power. That may please gold buyers, but not investors, as concerns about the current account deficit sent the rupee to a record low last August.

Fixing the structural challenges that keep the current account deficit wide, such as the weakness of manufacturing exports, could take years to reverse.

DEALING WITH RBI AND EL NINO

The new government may face a factor beyond its control: the El Nino weather pattern, typically associated with weak rains.

Analysts say El Nino could batter India’s farm output. Citigroup estimates that below-average rainfall in the June-September monsoon could shave 0.50-0.90 percentage points off its economic growth forecast and lead to a spike in inflation.

Surging prices could spark tension with the central bank, whose governor, Raghuram Rajan, has made containing inflation a priority. The Reserve Bank of India wants to bring down consumer price inflation to around 6 percent from the current 8.6 percent by January 2016, which would probably mean more interest rate increases. It has raised rates three times since September.

REVIVING PRIVATE INVESTMENT

Market expectations of Modi are based largely on perceptions of his track record as chief minister in Gujarat, where he is widely credited with attracting investment.

However, analysts say replicating that nationwide will be difficult, given that states wield much of the power in approving projects. Credit Suisse estimates that only a quarter of pending projects depend on central government approval.

Capital investment contributes nearly 35 percent to India’s economy, but it barely grew in the fiscal year that ended in March as delays in clearances and funding issues grounded many infrastructure projects.

That is particularly the case with state electricity boards, which remain hobbled by losses caused in part by the high cost of fuel and their inability to raise prices correspondingly.

Short of recapitalizing state utilities, the central government has few choices in pushing for a restructuring.

RECAPITALISING STATE-RUN BANKS

India needs to address a $100 billion pile of bad loans at its state-run lenders – about 10 percent of all loans. Fitch Ratings expects stressed assets to reach 14 percent of loans by March 2015.

The bulk of these bad loans are related to infrastructure projects, which have made banks circumspect in lending.

The interim budget set aside 112 billion Indian rupees ($1.89 billion) to help the sector meet the minimal capital ratios mandated by Basel III norms, but more will be needed.