Honour fiscal commitments

Mr Chidambaram will present the UPA government's fifth and final Budget on February 29, with an undoubted mandate from his Cabinet colleagues to do whatever he can to further their prospects in the state elections during this year and the general election scheduled for May 2009. In his previous Budgets he strongly projected his commitment to the fiscal consolidation process, both in terms of adherence to the goals of the Fiscal Responsibility and Budget Management (FRBM) Act and with respect to a fundamental overhaul of the indirect tax regime by way of a transition to a national Goods and Services Tax (GST). The question on many people's minds is whether the political compulsion will come in the way of fiscal discipline in the coming Budget. Given the overall fiscal situation today, with the strong buoyancy in revenue collections till the December collections, particularly from direct taxes, the finance minister may not be in a particularly difficult situation; he can afford to cater to political objectives (whether his initiatives will work or not is another matter) without seriously compromising fiscal discipline. However, he will have to take into account the many threats looming on the fiscal front. The economy, particularly the manufacturing sector, is showing signs of slowing down, and will lead next year to slower growth in tax collections, both direct and indirect. The global food situation presages an increase in both food and fertiliser subsidy commitments. The Sixth Pay Commission recommendations will have to be accommodated, and there is the long list of off-Budget items, like the oil bonds and the under-provided fertiliser subsidy.

While Mr Chidambaram is fully entitled to give his Budget a political slant, the best legacy that he can leave for his successor next year (who, for all one knows, could well be himself) is to persevere with his commitment to fiscal consolidation and indirect tax reform. On the former, while he will have few problems meeting the target of restricting the fiscal deficit to 3 per cent of GDP, the target of a zero revenue deficit is a far more challenging one. In addressing this, he could attempt to balance political and economic considerations by sharply focusing this year's enhanced expenditure commitments on programmes that have shown signs of delivering over the past few years. However, it is his commitment to indirect tax reforms that will really be tested. The path towards a GST comprises a significant number of changes in the tax rates that apply to different products and services and a huge ramping up in the sharing of information and co-ordination across states. As a first step, he would, in this Budget, have to initiate the process of aligning rates across goods and services, which currently differ. He would also have to begin phasing out exemptions, without which the impact of the GST, which is a tax on value added, would be seriously diluted. The exemptions are predominantly based on location and scale of production, both of which have significant vested interests supporting them. The former, in particular, will pose a significant challenge in a year in which many states are going to have elections. The best thing about rapid economic growth is that it significantly increases the finance minister's room for manoeuvre in reconciling immediate political objectives with structural economic reforms. With his long experience in the role, Mr Chidambaram surely realises that. His Budget will be judged by how effectively he takes advantage of the opportunity.