The centre’s budget for FY 2015 needs to be much more than the arithmetic of balancing revenues and expenditures. It can lay the foundation of the new government’s strategy for reviving the Indian economy, ushering in major structural changes to propel the Indian economy to a preeminent position in the global economy. Uplifting growth to its potential and bringing inflation to acceptable levels are the immediate policy challenges. Sustainable solutions would require attention not only to the growth rate but also its sectoral composition. Similarly the inflation problem is as much of its composition as its level.
Reversing Initial Conditions
For reviving growth, some of the debilitating initial conditions need to be reversed. First, the saving rate has fallen by 7% points of GDP compared to the FY 2008 peak for which the increase in government dis-savings has largely been responsible. Furthermore, household financial savings have fallen by 4.5% points between FY2008 and FY2013. Second, there is large idle capacity in mining, manufacturing, construction, and communications. Third, exports that grew at more than 25% during FY 2005-08 are now expected to grow at half of that. Fourth, investment rate, which had fallen, compared to the FY2008 peak of 38% of GDP by only 3% points by FY2013 has fallen further in FY2014. Growth of investment demand, comparing FY2006-08 average with FY2012-14 average, has fallen by 16% points. Fifth, over the same period, private consumption demand, which has a much larger weight in domestic demand, has fallen by 4% points. These factors interactively have eroded growth by nearly 5% points compared to peak growth during 2005-08. They will need to be reversed for economic revival.
Expenditure Reforms: Fiscal Stimulus to Growth
Expenditure reforms will deliver more results immediately while tax reforms will be important for the medium term. There is considerable scope for rationalizing revenue expenditure by limiting subsidies, recasting central and centrally sponsored plan schemes, and reducing routine administrative expenditure. The time has come to completely eliminate budgetary subsidies for oil products. We anticipate the budget to announce a road map for this while limiting the overall subsidies to no more than 1% of GDP.
Recasting centrally sponsored subsidies and linking these with an incentive based grant system can make these schemes far efficient, less costly, and less in number. States can be allowed to choose from a basket of centrally sponsored schemes most suitable for their states subject to a total grant entitlement. This will force central ministries to become more efficient in designing and implementing their schemes thereby eliminating the tendency for proliferation of these schemes. Only the best schemes will survive when they are made to compete.
The central government capital expenditure has consistently fallen to about 1% of GDP. With fiscal deficit at 4.5%, this is a large departure from the golden rule of keeping fiscal deficit and government capital expenditure equal. Reversing this trend yields triple benefits: it adds to non-inflationary investment demand, which can be directed to infrastructure for using idle capacity in construction and manufacturing; it improves the quality of fiscal consolidation by reducing revenue deficit faster than fiscal deficit, thereby reducing government dis-savings, and it increases capacity, absorbing both skilled and unskilled human resources. We consider that a minimum increase of 1% points of GDP in central capital expenditure is feasible.
Complementing Growth Effort: States and Public Sector
But this is not going to be enough. States should be induced to spend an additional 1% of GDP on capital expenditure. They had a combined fiscal deficit of a little over 2.1% of GDP in FY2013 and have a comfortable cash position. A part of development grants may be linked to additional capacity created by the states in solar and other non-conventional power, additional irrigation canals subject to pre-announced norms, and additional rural roads measured from an agreed cut-off date. This will be a means of inducing development competition among the state governments in our federal set up aimed at a common cause.
The central public sector enterprises that have the necessary assets or cash surpluses can be asked to spend an additional 1% of GDP on expansion plans. A fourth source can be FDI, where sentiments have turned positive. We expect a signal for rolling back retrospective taxation to further strengthen this positive sentiment. Together, these initiatives can augment the investment rate by 4% points of GDP which, supplemented by utilization of idle capacity, can push growth to above 6% in FY15 itself.
Revenue Side Changes: Supporting Private Demand
Alongside, household consumption demand and savings, particularly in the financial form, would need to be boosted. Raising the personal tax exemption limit by a reasonable margin and increasing the 80 C limit to Rs. 2 lakh for saving in specified instruments can be the first steps towards more comprehensive direct tax reforms.
The recent suggestion by SEBI for widening the public participation in public sector enterprises by limiting government ownership to no more than 75% can unlock significant resources for the government. Broad estimates indicate that through this disinvestment close to Rs.75000 crore can be raised. In addition, non-tax revenues can also be raised by monetizing by outright sale or giving on lease considerable land and spectrum holdings of departments such as defence and departmental enterprises such as railways and posts and telegraphs.
Completing Fiscal Consolidation
There should be no compromise in completing fiscal consolidation. Fiscal should be reduced from 4.5% of GDP to 3.0% by FY 2017 and revenue deficit should be eliminated even faster. This will establish credibility with the rating agencies and smoothen FDI inflows.
(Views expressed are personal)