Balancing act

Finance Minister P Chidambaram presented his mid-year review of the economy to Parliament on Monday, in keeping with the government's commitments under the Fiscal Responsibility and Budget Management (FRBM) Act.

While the document assesses the state of the economy as a whole, attention has naturally been focused on the finance ministry's judgments about its ability to meet the annual targets on deficit reduction that it has set for itself.

On this score, the review suggests that, going by first-half performance, this year's targets may prove to be unattainable. The main concern is on the revenue deficit, which, at the end of September, turned out to be about 79 per cent of Budget estimates, compared to the target 45 per cent.

In contrast, the fiscal deficit was 39 per cent of the Budget estimate, below its own target of 45 per cent, but this is because of the accounting benefits that central government finances receive from states swapping their high-cost loans; it does not reflect any dramatic improvement in fiscal discipline.

The main reason for the mid-year slippage is the disappointing growth in the three major sources of revenue""excise, customs, and corporate income taxes.

Revenues from excise and customs have grown by 9 per cent over the first half of the previous year and corporate taxes have grown by 7 per cent. This performance is at odds with the broader macroeconomic indicators.

Manufacturing output, which is the revenue base for excise, grew by 8 per cent in real terms, with inflation of about 7 per cent. With nominal output growing at around 15 per cent, excise collections should have kept pace, but clearly have not.

Likewise, imports grew by over 34 per cent during April-September 2004, which makes the 9 per cent growth in customs duties look rather anaemic, even if one gives due consideration to the various revisions that were made in duties on crude, steel, and some other commodities.

And corporate profitability has certainly grown more than would be suggested by a 7 per cent growth in taxes paid. The many steps that the government indicates it has taken to tone up tax administration and compliance clearly do not reflect in the first half's revenue performance.

With the kind of optimism that the review shows about growth performance""continuing buoyancy in industry and services, which are the tax paying sectors"" this degree of fiscal slippage is quite surprising.

The negative role of subsidies in hindering fiscal adjustment was highlighted in both the review and the Economic Survey presented by the finance ministry before the Budget in July.

However, as much as subsidies may be to blame, the government is simply not doing its job of enforcing tax compliance if the revenue response to a generally good economic environment is so weak.