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An opaque exercise?

Loopholes in budget
Last Updated 01 March 2013, 18:59 IST

Has the FM shown reduced fiscal deficit by merely postponing  certain expenditures like payment to oil companies?

The Union Budget 2013-14 has been presented against the backdrop of a sharp decline in the growth rate of GDP (around 5 per cent against the earlier projected 7.6 per cent), the continuing high food price inflation, an unsustainable current account deficit (CAD) which the finance minister considers an bigger worry than the fiscal deficit, falling investment rate (from 38 per cent in 2007-08 to 35 per cent in 2011-12), an even bigger fall in savings rate (from of 36.8 per cent in 2007-08 to 30.8 per cent in 2011-12), and the Parliament elections due next year.

The finance minister has made clear that there is no alternative but to encourage more foreign investment to finance the CAD, higher savings from both the government (by lowering the fiscal deficit) and the private households (by making savings in financial instruments more attractive relative to gold and real estate) and more investment in infrastructure.
 
Thus, Chidambaramhad to engage in a difficult balancing act between the imperatives of restoring the economic health of the country and of winning votes. He started his speech by raising typical electoral noises about taking care of the youth, young, women, minorities, SC, ST and the poor by announcing some new schemes and increasing financial allocations for some of  the existing ones.
All the current flagship schemes would be fully funded, and Rs 10,000 crore of additional funds would be allocated  to finance the forthcoming Food Security Bill.

He further buttresses the ‘pro-poor’ image by imposing an income tax surcharge of 10 per cent for the ‘super-rich’ (numbering only about 42,000 people) earning more than Rs 1 crore of declared income, income tax reduction of Rs 2,000 for people earning Rs 2-5 lakh per year, increasing taxes on SUVs, imported cars, high-end cell phones and meals in AC restaurants, and extending insurance cover to more people like auto drivers and rag pickers (Question: who will certify the rag pickers?)

The key to higher growth is more savings and investment. To encourage savings in financial instruments, he has announced inflation-indexed bonds and more tax incentives for investing in equities and mutual funds for the first time investors. For reviving investment, Chidambaram has proposed an investment allowance for projects above Rs 100 crore, more tax free bonds for infrastructure projects, fiscal benefits for alternative energy (like wind, waste to energy) projects, additional tax deduction on interest payments up to Rs 1 lakh for first-time house buyers. The investments norms for foreign institutional investors have been eased. The already formed Cabinet Committee on Investment chaired by the prime minister will further help to clear stalled big investment projects.

Attracting foreign money

Bringing down the fiscal deficit would improve the government’s credit rating and investor sentiment abroad, attracting more foreign money. Contrary to expectations, the finance minister claims to have contained fiscal deficit at 5.2 per cent of GDP (below 5.3 per cent of projected deficit for 2012-13) and pegs it at 4.8 per cent for 2013-14. It is not clear how he has done this – is it merely by postponing certain expenditures (like payment to oil companies) or cutting investment expenditures or revenue (government consumption) expenditures?

Further, the projected deficit for 2013-14 is based on the assumption of the international oil price remaining within $110 per barrel and the rupee-dollar exchange rate at around the current level. If the scenario becomes significantly different from these assumptions, the projected fiscal deficit may go haywire.
In fact, the solutions to many of the problems (except for the inflation) lie in stepping up the growth rate. Tax-GDP ratio typically goes up with increasing growth rate of GDP. Remember that Tax-GDP ratio reached the peak of 11.9 per cent in 2007-08  when the growth rate was at the highest rate of 9.6 per cent, falling to 9.9 per cent in 2011-12 with 6.2 per cent GDP growth. The savings ratio also reached the peak in the same year 2007-08.

The inflation rate may, however, go up when GDP growth rate picks up. This is because agriculture accounts for less than 15 per cent of GDP. So, GDP growth may very well go to 8 per cent due to pick up in manufacturing and services, even with agriculture growing at 2-3 per cent. Then the demand for food and other agricultural products will be rising at a rate much faster than production, fuelling food price inflation. 

Thus, even if growth picks up, the inflation problem will not be solved. Tackling inflation would need significant improvement in agricultural productivity through higher yielding seeds, drought resistant crops, more areas under irrigation, improved farming techniques, better storage, transportation, marketing and so on. Since government agencies have a big role to play in many of these areas, high food inflation (rather than low growth) may well be the biggest headache for the government and the most important electoral issue next year.
Finally, the implementation deficit. Allocating funds is the easier part. Improving the delivery mechanism, plugging diversion and leakage, completing projects on time (preventing cost and time overruns) according to quality specifications are tasks beyond the realm of the finance ministry. The objectives of the politicians, administrators and managers on the ground, even with decentralisation and elected local bodies, are often at variance with what the finance minister may announce  with a lot of fanfare in his budget speech.

(The writer is a former professor of economics at IIM, Calcutta)

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(Published 01 March 2013, 18:59 IST)

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