The great expectations challenge

Instead of grand visions and big announcements, the Budget should have focused on managing expectations around the current economic cycle

There is a lot that needs to be fixed in Indian economy. Nirmala Sitharaman’s second Budget speech was never going to provide a solution to all problems. In fact, some of the most pressing structural reforms relate to the factor markets — amending land acquisition laws, changing labour codes and re­booting the banking system. The first two are clearly off Budget. The third has been addressed through recapitalisation but the key to reform is more structural, requiring ei­ther divestment or genuine autonomy, neither of which can be dealt with in the Budget.

The 16-point plan for agriculture which took considerable time and space also belongs off Budget as the key to it is structural market reform. There are other matters the Budget must deal with, most obviously those that relate to governme­nt expenditure and revenue. As these have implications beyond just balancing the books, the Budget cannot also be seen merely as an accounting exercise. 

The Budget for 2020-21 was presented in a scenario of stalling economic growth, the lowest in a decade. There are many reasons for this slowdown, some external, some internal, some cyclical, some structural, some legacy. Whatever the reasons, expectations were heightened because stakeholders expected the government to respond radically. And on that metric, the Budget fell short.

Realistically, the only radical response that the government could have chosen was to loosen the purse strings in a strong counter-cyclical fiscal policy. The fact that it deviated from its fiscal deficit target of 3.3 per cent of GDP (for 2019-20) by 0.5 per cent is not an indicator of a fiscal stimulus but a stretch. Shortfalls in revenues, taxes and non-tax receipts, like disinvestment, in the midst of slow growth meant that the government had no choice but to let the deficit grow by a quantum permitted by the FRBM Act. If off-Budget borrowings are taken into ac­c­ount, the deficit is even higher. So, a real fiscal stimulus would have required the government to let the on-Budget fiscal deficit grow to around 5 per cent of GDP.

There are good reasons for the government not to have chosen that path. Additional government spending and therefore more borrowing would only put upward pressure on interest rates and crowd out the private sector from accessing resources. The direct contribution of government spending to In­di­a’s GDP is only around 12 per cent whereas private investment is 30 per cent (but ought to be more than 35 per cent). It is also well known that private investment is more efficient than government spe­nding. So the government’s commitment to maintain a semblance of fiscal re­straint may be good for revival in the medium term.

The FM should have tied in this logic with her exhortation of wealth creators and wealth creation. She could have articulated a clear vision for private sector-led growth where government would only play a supporting role in creating a conducive environment through structural reforms which will continue to happen off Budget.

That may not have squared well with the government’s political intent to focus on welfare. It could have. The FM alluded to former PM Rajiv Gandhi’s famous ad­mission of leakages in government spending. The Modi government has seriously reformed delivery systems so an emphasis could have been laid on getting more bang for the buck. The FM could have also been forthcoming on the inability of certain government departments and agencies to spend their Budget allocations. When fiscal space is tight, the allocations to such departments could have been cut while rewarding those which spend efficiently. In other words, the overall expenditure, even if only nominally increased could have been deconstructed. 

On the revenue side, the FM could have made out a case for no changes given the fiscal situation. A complicated opt-in system through which an individual could potentially get a small tax concession did not seem worth the effort. Instead, she could have laid down a pathway over the next five years in which personal income tax rates would be rationalised as growth recovers.

In the end, a do-little Budget was perhaps the best option for the FM. If only her Budget speech was structured to explicitly note the economic context and detail the government’s strategy. Fortunately, the economic cycle is not coinciding with the political cycle. The government has over four years left.

The author is chief economist, Vedanta