The Finance Minister faces a difficult problem in choosing between two sets of advisers. Both factions accept that the budget must aim at stimulating  investment. One group would like the FM to stick to the fiscal deficit targets so that monetary policy can be more relaxed and allow interest rates to come down as, with negative inflation, current real interest rates are much too high. The other group are sceptical about the stimulating effects of monetary policy relaxation and would like to see a substantial increase in public investment in infrastructure, which,they believe will stimulate private investment in due course.

Who is right - the ones who want a "tight fiscal, relaxed monetary" (TFRM) policy or those who want a "relaxed fiscal,  tight monetary" (RFTM) policy? One can rule out "RFRM" policy with both fiscal targets and monetary policy being relaxed because of the need to contain the risks of inflation.

The answer depends on how one diagnoses the current halt in the pace of corporate investment. That there is a halt is clear from economy wide investment statistics of and from the data on stalled projects.  A recent RBI study on capital expenditures in projects funded by banks, equity issues, external borrowing, etc shows a sharp decline from Rs.3395 billion in 2008-09 to Rs.1933 billion in 2014-15. The number of new projects also declined and much of the capital expenditure was on expansion and modernisation. A closer analysis of stalled projects shows that the dominant reason for the halt is lack of demand and related loss of promoter interest rather than regulatory  or land acquisition delays.

The possibility of low demand growth as the main reason for the slow down is quite plausible and is borne out by the low revenue growth seen in corporate results as recently as the third quarter of this fiscal year.. The investment slow down from an annual growth rate of 12.8% in the decade before 2011-12 to 2.4% in the last three years has hit capital equipment and construction service suppliers. Exports have been declining for many months now. The boom in rural demand ended with the restraint in minimum support price increases and the stagnation in wages. If the dominant reason for the investment slow down is the absence of adequate demand growth then the FM should opt for a RFTM strategy with a direct fiscal stimulus through public spending even at the risk of breaching the deficit targets.

But the FM also has to take into account another major reason for the investment slowdown - corporate indebtedness. An IMF study states that  "a composite measure of corporate vulnerabilities indicates that the financial health of Indian corporates is at its weakest since March 2003."

The reasons for this lie partly in what this year's  Economic Survey called "over-exuberance and a credit bubble" to which one should the myopia and cupidity of promoters who could not see the rocky reefs ahead as they cruised in their luxury yachts. But there are others who landed up in a badly indebted state because the a sudden slow down on demand growth or in severe competition from low cost and sometimes predatorily priced imports.

The FM has to worry about the impact of his choice of strategy on these indebted corporations because much of this debt is owed to public sector banks whose burgeoning NPAs are already a problem for the FM.  Indian companies whose total debt exceeds five times equity account for almost 30 percent of the borrowings of Indian corporates. High real interest rates will make it more difficult to resolve this problem and this consideration would work in favour of a TFRM strategy that would allow a significant reduction in interest rates by reducing the risk of  inflation.

The choice of a budget strategy also has to take account of the gloomy prospects for global growth and the impact on foreign investors and rating agencies.  What will they look for- a revival of  investment growth or adherence to fiscal discipline?

Foreign portfolio investment is a key determinant of domestic stock market performance and that in turn affects the ability to raise capital for investment and, for that matter, successful  public sector disinvestment as a deficit management tool. But the global economic environment for such portfolio investment flows may well remain unfavourable for some time. Low oil prices are expected to continue, particularly with Iranian supplies entering the market and Saudi determination not to lose market share being reinforced by this development. These low prices will reduce the flow from the sovereign wealth funds of oil producers. As for other investors one can expect a flight to safety because of the global impact of the slowdown in Chinese growth and the expected rise in US rates. 

The concerns that drive foreign direct investment however will depend more on the performance of the real economy in terms of investment growth since that is what will open opportunities for them. This is also what will drive the investment decisions of local companies. 

A lowering of real interest rates is like a generalised broad brush stimulus for investment. But at present investments in many sectors are held back by the absence of any clear sign of demand growth. Firms in these sectors are not going to take up new investment in the immediate future. The reinvigoration of investment will have to start somewhere and public investment in infrastructure seems the best immediate option. The demands it generates can help to stimulate private investment and may also help to improve the balance sheets of debt stressed companies.

All this will simply shift the economy from intensive care to the general ward. Long term growth strategy has to address other areas like job generation and technology development and deployment.  The FM must signal support for policies and initiatives that have this potential. And if he strays from the path of fiscal rectitude, he must reassure fiscal hardliners by indicating when he will be virtuous again.