Something deficient in fiscal deficit

Way back in 1986, I wrote an article in which I discussed the idea of budget deficits because the Rajiv Gandhi government had accepted the idea of financing growth by borrowing from the Reserve Bank of India (RBI) — that is printing notes. The idea had come from L K Jha, once in the Indian Civil Service, and RBI governor in the late 1960s.

Many economists in India and abroad were pointing to the risks of this strategy. The International Monetary Fund (IMF), in particular, basking in the glow of its successes in tackling the Latin American debt crisis, was especially worried. A few years earlier it had conjured up 3 per cent as the desired, or indeed perfect, level of fiscal deficit as a percentage of gross domestic product (GDP).

I began wondering how such a level could be fixed in a one-size-fits-all way. Governments didn’t run up deficits just for the heck of it. They were trying to find the money for both investment and welfare in that order. So I wrote the usual 1,000 words one day.

If this premise was granted, I argued, then surely the size of the population was a relevant determinant. So I suggested that the correct way to look at deficits was not just as a percentage of GDP but also in per capita terms. Little did I know that a few years later the same idea would be used for carbon emission. No credit to me but the same idea of per capita measurement had struck someone else as well.

Anyway, a very good economist friend of mine, who has subsequently gone on to great professional achievements, rang me up and told me not to write such nonsense because I was making a fool of myself. I asked him what was wrong with the idea. He had no convincing answer. Later on, however, he went on to support the idea of per capita emission.

Personally, I think I should have been feted by everyone. But as it happens with newspaper articles, even I soon forgot about it. I think now the time has come to revive that idea.

Basically, the question is this: If the balance between investment and welfare spending must shift in favour of welfare spending because of all the well-known reasons, how do you factor in the size of the population? After all, were not the recent income support schemes of the Western countries predicated on the number of people in the country?

I am not for a moment saying that the idea of expressing deficits as a percentage of GDP should be given up. Not by a long chalk. What I am saying is that it cannot be the only thing. Indeed, the lower the GDP, the more relevant the population size because taxes alone can’t fund both investment spending and welfare spending.

Now, I know that the IMF consensus — if I may coin a term — is important if only to give something for private lenders to hang on to. But surely if, simultaneously, the World Bank and other assorted activists are honking away like angry geese about social sector spending, there has to be some middle ground?

In the absence of that middle ground, there must be a reduction not just of investment spending by governments but also welfare spending by them. We have seen both happen. This may work well for small populations. But for large ones, like, say, anything over 300 million people,

it’s way too unrealistic because it completely disregards the responsibilities of governments — democratically elected or otherwise.

So what would be a better way? Would a weighted average of GDP and population work? Is it even possible to have something like that? I don’t know because I am not a statistician. But I think we now have an opportunity to work out a deficit number properly instead of something that was plucked out of the air 40 years ago and thrust down our throat. If I am wrong about that 3 per cent number

having no scientific basis, please tell me and I will withdraw all my complaints about it.

But after 40 years of observation, I do know one thing: GDP alone isn’t an adequate measure to calculate a safe level of budget deficit. Population also has to be worked into the method. It is just common sense. After all, we have around 150 million landless labourers with no skills and poor nutrition who have to be provided for somehow, and that’s at the very minimum. The “Only GDP” method simply doesn’t cut it.