This budget puts forward ad-hoc and temporary solutions to deep, structural problems. It undermines fiscal responsibility. This cannot end well.
On February 1, Finance Minister Arun Jaitley presented the last budget of this government’s tenure. Parsing the numbers, one gets the impression that substantial amount of firefighting was involved in the budget making. Two signature initiatives of this government–demonetization and GST– continue to be a fiscal drag for this year, and will probably remain so next year as well.
The fiscal woes of the government emanated from multiple sources: lower dividends from the RBI; less than anticipated realisation from the auction of spectrum and license fees; and last, but most significantly, compensation to states on account of GST transition. Cumulatively, the government was staring at a revenue deficit slippage of around Rs 1.17 trillion (0.72% of GDP).
This is in addition to Rs 80,000 crore special securities issued to banks on account of recapitalization. Technically, these securities don’t affect the fiscal deficit this year as proceeds flow into the Public Accounts of India and not into the Consolidated Fund of India (CFI). But as interest payment and eventual repayment will be made from the CFI, they will affect fiscal deficit figures from the next year onwards.
Eventually, the government managed to contain headline fiscal deficit slippage at around Rs 48,318 crore (0.3% of GDP), but not without resorting to desperate measures. Spending on infrastructure was first to be guillotined. Total capital outlay was slashed by Rs 36,335 crore. The capital budget of Railways was most adversely affected: it was reduced by Rs 15,000 crore. Expenditure on highways, power and irrigation projects was also pruned.
Disinvestment proceeds exceeded budget targets by a hefty Rs 53,500 crore. Sceptics may say that much of disinvestment was the old dog-and-pony show of one PSU investing in another, but this ‘accounting trick’ is precisely what made fiscal deficit figures a bit more respectable than they actually are.
Some of the details of ‘deficit management’ are rather puzzling. For example, one accounting head vaguely titled “Other General Economic Services” shows a massive receipt of Rs 22,019 crore, which is wildly out-of-proportion given past realisations and current budget estimates. Based on budget documents, it is not possible to disaggregate and explore it further. But the general point is simply this: While the burgeoning expenditure and revenue shortfalls seem structural and persistent, measures which have saved the day for finance minister are ad-hoc and temporary.
How does the government plan to address this structural imbalanace? It turns out that it has figured out a solid three-pronged fiscal strategy: impose more taxes, prune capital expenditure and relax fiscal deficit targets! Proposed amendments to the Fiscal Responsibility and Budgetary Management Act (FRBM) and ongoing turmoil in the bonds market should be seen in this context.
As if jettisoning the FRBM target for the second time in the last five years was not sufficient to undermine the credibility of the act, numerous legal grounds on which FRBM targets can be breached in future have been added. One of these, ‘structural economic reforms with unanticipated fiscal outcome’, is so broad that it can be invoked to justify any breaching of the FRBM target. Since no one has ever defined (or even knows!) what ‘structural economic reforms’ mean, how can one argue that say installation of an air-conditioner in Expenditure Secretary’s office is not a ‘structural economic reform with unanticipated fiscal outcome’?
Reversing yet another hard-won fiscal consolidation measure, proposed amendments allow the Reserve Bank of India to participate in the primary issuance of government paper. The objective of this provision was to make automatic monetization of fiscal deficit a tad more difficult. Amending this provision can lead to only one inference: Government plans to monetize its ballooning deficit.
FRBM had separate targets for revenue deficit and fiscal deficit. Of the two, the target for revenue deficit is proposed to be junked. The medium-term fiscal policy statement contains a convoluted justification of the move that needs to be quoted in toto.
From FY 2018-19, it has been decided that the government would do away with the RD targets. In a country like India, there is little or no evidence to say that capital expenditure should enjoy pre-eminence. Maintenance expenditure, especially for schools and hospitals that include teachers and doctors salaries are as important as capital expenditure on building new schools. Moreover, expenditure on schools and hospitals also enhance the human capital formation in the country. This strategy, however, will not compromise on the Capital expenditure since Government is meeting the requirement through off budget borrowings. Debt raised for the purpose would be repaid through revenue generation from such projects. Thus, both Capital and Revenue expenditure needs of the economy would be met.
First of all, the invocation of teachers’ and doctors’ salaries is both misleading and inappropriate in this context, as they are not the proximate cause of revenue deficit. If anything, the budgetary allocation for health and education has been compressed, relatively speaking. The origin of revenue slippage lies partly in the Manichaean economics being practiced now, partly in legacy issues and partly in poor fiscal marksmanship. Instead of using hapless teachers and doctors as a shield, policy makers (past and present) should take some responsibility.
The claim that ‘this strategy will not compromise on the capital expenditure’ is even more problematic. At a given interest rate, a project is either financially viable or it is not. If it is financially viable on its own (that is there is no market failure), why should the government get involved in it in the first place? And if the project is socially desirable yet financially unviable owing to some market failure, how will it become viable without budgetary support? Readers are invited to square this circle.
In the interest of fairness, it must be added that the FRBM amendment imposes new constraint in terms of overall debt-to-GDP ratio. Also, the definition of Central government debt has been broadened. The trouble is that it is non-credible for various reasons. First, it is worded differently and most likely non-binding in nature. Second, the terminal date of compliance is far-off in the future (FY 2024/25). Third, as anyone who has tried a weight-control regimen knows, violating immediate constraints and promising to compensate in future rarely works.
Fiscal consolidation was one of the strongest points of this government. After this budget, it is back to where it started from. And the FRBM amendment, at least in some limited but important ways, has turned the clock back to pre-FRBM days.