Hole at the centre of govt finances

Formal fiscal consolidation papers presented to Parliament are silent on India's primary deficit

The papers on the fiscal consolidation plan, presented in Parliament with the Budget documents, did not mention the primary deficit.

This was although the Economic Survey analysed it as an indicator of the government’s debt.

Primary deficit is the difference between fiscal deficit of the current year and interest payments on previous borrowings. It indicates how much of the government borrowings are going to meet expenses other than the interest payments.  

So, a zero primary deficit indicates interest commitments (on earlier loans) have taken all the borrowing.

Neither the medium-term fiscal policy statement or the fiscal policy strategy statement mentioned the primary deficit. 

“If revenue deficit is slated to be zero down the line, the papers should have also given the primary balance. A zero-revenue deficit means the primary balance needs to be in surplus,” CARE Ratings’ Chief Economist Madan Sabnavis told this paper. 

Nowadays, instead of stating the aim on the revenue deficit, the government says it aims to bring down the effective revenue deficit to zero. This is the revenue deficit, excluding grants from the Centre to states for capital creation. According to the Fiscal Responsibility and Budget Management (FRBM) Act, the effective revenue deficit was to be zero in 2017-18. Now, however, it is projected to come down to 0.7% of gross domestic product (GDP) in 2017-18, from 0.9% in the previous financial year. 

However, the Budget papers do give the primary deficit number for this year. It is targeted to come down to 0.1% of GDP in 2017-18, from 0.3% in 2016-17. Of the Rs 5.46 lakh crore of fiscal deficit, Rs 23,000 crore is the primary deficit. This means Rs 5.23 lakh crore is interest on past debts. 

The Economic Survey has said there is nothing extraordinary about running a primary deficit, in itself. Most of the other large emerging markets do so, having fallen into this situation after the global financial crisis, when GDP and revenue growth slowed, while stimulus spending was increased.

Even so, India stands out for the size of the deficits it has run over the past decade, especially when compared with its rate of growth. At such high rates of growth, substantially greater than its peers, the primary deficit should have been much lower than the others. Instead, it has been significantly greater, says the Survey. 

It took the primary deficit at both Centre and states for consideration. The figures show the country’s primary deficit averaged 3.2% of GDP a year for the decade ended 2015-16, highest not only among Brics (Brazil, Russia, India, China and South Africa) countries but also over Argentina, Mexico, South Korea, Turkey and Indonesia. 

The survey says as a result of running a primary deficit, the government is dependent on growth and favourable interest rates to contain the debt ratio. In the aftermath of the global financial meltdown, as growth slowed and disinflation occurred, debt levels started to rise again.

This contrast between India’s primary balance position and that of other countries reflects a deeper point. India normally undertakes policy-related fiscal adjustment only gradually, the survey notes. 

Aside from crisis periods, the fiscal position has only improved sustainedly when it has benefited from windfalls, arising from exceptional growth or major declines in oil prices that allow for lower petroleum-related subsidies and higher excise taxes, it says. 

For example, between 2014-15 and 2016-17, lower oil prices will have contributed about a percentage point to fiscal adjustment, says the survey. 

It follows that if growth were to falter and interest rates to rise on a sustained basis, the debt ratio could start to spiral upwards, the survey cautioned. Such a debt explosion would require a large and unlikely shock. 

“But, this is not a completely theoretical possibility, either. It is exactly what happened to Greece,” it notes.

During the earlier government’s tenure, Montek Singh Ahluwalia, deputy chairman of the erstwhile Planning Commission, had wanted the primary deficit to be the indicator of the health of government finances. He’s reportedly written to then Prime Minister Manmohan Singh, stating the primary deficit was the internationally accepted measure of fiscal consolidation, as interest rates could vary for reasons other than government belt tightening.

 
Primary balance of government accounts

	A Interest payments on debt (in Rs crore)	B Primary deficit (in Rs  cr)	A+B Fiscal Deficit (in Rs cr)
2015-16 (Actual)	441,659	91,132	532,791
2016-17 (Budget Estimates)	492,670	41,234	533,904
2016-17 (Revised Estimates)	483,069	51,205	534,274
2017-18 (Budget Estimates)	523,078	23,454	546,532

Source: Budget documents