Higher interest rates could be the price of the fiscal stimulus.
The government has been on a spending spree this year, by an unbudgeted 4.5 per cent of GDP (or a staggering Rs 2,46,000 crore). And it has budgeted spending increases next year as well. That is the main message of the Interim Budget, which Finance Minister Pranab Mukherjee presented to the Lok Sabha today.
There are no changes in tax rates.
The spending splurge has been justified in the context of the economic slowdown, but the additional spending has more to do with protecting consumers from price surges, the government’s “aam aadmi” programme, and honouring the Pay Commission award for government employees.
Meanwhile, the slowdown and sundry tax giveaways announced in the course of the year have affected tax collections, which will end 2008-09 with growth of just 3.7 per cent over last year.
This double whammy, i.e. the slow growth of tax revenue and the surge in spending, has meant that the true fiscal deficit (the difference between total expenditure and non-loan receipts) has ballooned from a budgeted 2.5 per cent of GDP to 7.8 per cent. That figure includes 1.8 per cent of “special securities” that the government has issued to pay for subsidising oil and fertiliser.
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Where has the money gone? By far the biggest chunk is the subsidy on petroleum products and fertiliser, designed to protect consumers from the global oil price surge, to the extent of Rs 1,53,754 crore — or 2.8 per cent of GDP.
A second chunk is pay and pensions for 4.5 million government employees and 3.8 million pensioners, the total bill being Rs 47,503 crore spread over this year and the next, mostly on account of the Sixth Pay Commission award. Of that bill, Rs 27,459 crore is on account of arrears.
The third big bill has been on account of the waiver of farm loans, which has cost the exchequer Rs 25,000 crore this year, with a further bill of Rs 15,000 crore for next year. The total debt waived for 36 million farm families is Rs 65,300 crore.
The fourth big bill is Plan programmes as a whole, which have got an extra Rs 40,000 crore, a figure that could include some of the other items in this list.
In addition to these Big Four, there are two mini-splurges. One is on the rural employment guarantee programme, whose outlay has more than doubled from the original Rs 14,400 crore this year, with comparable spending next year. This year 35 million households have got an average of 40 days of work.
The other is defence, which has spent an unbudgeted Rs 16,000 crore on the revenue account (up 27.8 per cent), but which has been unable to spend a good chunk of its capital outlay. The net unbudgeted increase on defence, therefore, is Rs 9,000 crore.
Next year, although the government expects GDP growth to be 11 per cent (7 per cent real growth and 4 per cent inflation), it has budgeted for a tax revenue increase of no more than 8.4 per cent. Within this, it has budgeted for just 2 per cent growth in customs and excise revenue, and 6 per cent growth in service tax. A finance ministry official explained that the tax assumptions were modest because the bulk of GDP growth was expected from the sectors that do not pay customs and excise. In other words, the industrial slowdown is expected to continue.
Next year’s spending programme seems modest, showing a contraction of 4.4 per cent if all off-budget items are taken into account. This is explained by the drop in the subsidy bill following cheaper oil, yielding a subsidy saving of Rs 1,24,253 crore — or more than 2 per cent of next year’s projected GDP of Rs 60,21,426 crore. Spending on other items is, therefore, expected to expand, on top of which the finance minister has postulated an additional 0.5 per cent to 1 per cent of GDP on Plan programmes.
The fiscal deficit for next year is slotted at 5.5 per cent, or 6.5 per cent if the additional Plan spending takes place. This level of fiscal stimulus over two years shows up in the government's borrowing programme, which is expected to increase by an unprecedented 150 per cent, from this year's original Budget of Rs 1,33,287 crore to Rs 3,32,835 crore next year.
The impact is on the government's interest bill, which as a percentage of tax revenue goes up from 31.6 per cent as budgeted this year to 37 per cent next year. The price of the fiscal stimulus, therefore, is higher debt, higher interest payments, and (all else being equal) higher interest rates for everyone.