Scraping the fiscal barrel-the bottom up view

In a desperately poor land, which just got poorer, it is ironic that we succeeded in the big challenges, like keeping democracy alive, but failed in the most basic of municipal functions – quality education to develop skill sets for productive employment; health services, sanitation, sewage management and drinking water facilities to insulate people from the economic shocks of medical emergencies. An additional annual spend of 3 percent of GDP over a decade, could have dealt with all those challenges.

Asymmetry in mandates and fiscal power

In the absence of capable local governments, state governments have the mandate for providing these “social services”. They spent 30 percent of their total expenditure in the 1970s increasing to 35 percent by 2020, barring some reversals during the 1990s.

In contrast, expenditure by state governments on “economic services” -infrastructure projects like roads, power plants, irrigation systems; agriculture, small industrial and rural development- as a share of their total expenditure, progressively decreased from a share of 44 percent in the later 1970s to 29 percent by 2019-20. This shift in the profile of state government spend is explained by first the Union government and later liberalization, edging state governments out of economic services.

From the late 1970s, capital expenditure on power generation shifted to the newly minted Union government PSUs and away from the State Electricity Boards. From the 1990s private power companies stepped in with the bulk of the investment. New irrigation projects also tapered off with large dams coming under ecological disrepute. Most of the road building also got subsumed under Union government financed interstate highways or rural road building programs.

State government owned industrial finance companies and PSUs came under stress due to competition from banks, private financial companies, and private industry. The initiative for an active industrial policy shifted from the state governments to the Union government.

Union government better endowed to manage infrastructure development

Being free to finance its deficit through debt, made it easier for the Union to shoulder aside state governments in infrastructure development. Union debt increased from 41.4 percent of GDP to 66 percent between 1981 and 2005 before reducing to 52 percent of GDP by 2020. The increase was partly due to external debt, which increased from 9 to 16 percent of GDP by 1992 before tapering off to 3 percent by 2020. Meanwhile state government debt increased from 18 to 31 percent of GDP by 2005 before reducing to 26 percent by 2020. More generally, with industrial policy shifting from direct public sector intervention to guarantees for contracting PPPs and fiscal incentives like interest rate subventions and tax benefits, the Union government had the upper hand, with its direct regulatory control over the financial sector -banking, insurance, and the securities markets.

Reduced expenditure on development is an ineffective way to comply with fiscal rectitude norms

Could throwing more money at the problem have helped improve social services outcomes? The reform strategy post 1991 gave precedence to investments in infrastructure over targeted poverty alleviation- considered at the time, as leaky and wasteful.

State governments spend more than the Union government on development expenditure (economic services plus social services). Their share in the past decade was 70 percent of the total development expenditure. But all of government outlays on development, relative to total expenditure, have decreased since the peak of 62 percent during the 1980s to 51 percent for the decade ending in 2010. It increased to a share of 58 percent during the decade ending in 2020, But that was still 4 percentage points below the peak level, largely due to fiscal restraint targets.

Paradise Lost

The hope was that economic growth fueled by better infrastructure investment and governance reforms would generate enough good jobs, allowing poorer folk to look after themselves, rather than depend on doles.

Sadly, enough “good jobs” were never created, even though a growth upsurge and better targeted measures did lift all boats, reducing poverty from 46 percent in 1990 to 9 percent by 2017-18. The right to food at low administered prices- extended now to around 800 million people; minimum support prices for cereal crops; cheap electricity and irrigation water sustained families in agricultural – one half of the total workforce -while interest rate subventions, public sector purchase preference and most recently, higher import tariffs protect the profits of small and large industry.

The Modi government’s determination to be fiscally correct was blown away by economic slowdown since 2017-18 with the pandemic cementing fiscal profligacy into the government budget till, at least, 2022-23, by when pre-national election populism, will kick in.

As we struggle to restore tax revenue at 2019-20 levels in real terms, fiscal space is limited for the structural problems of an ineffective education system or a ragged health care service, let alone for clean drinking water, sanitation and sewage management, world class cities, highways, or a blue water navy to keep China at bay.

Growth versus inflation

We shall firefight, over the next two years, to make food and daily needs available to the poor; struggle to pay government servants and pensioners; think creatively to restore dignity to the unemployed; dumb down public projects to ensure more bang for the buck and focus expenditure on fewer schemes for earlier fruition. None of this makes for enhanced political capital even as the rest of the world luxuriates in V shaped recoveries.

If, perchance, we pursue quick-wins, like printing money to insulate the private sector from higher interest rates whilst funding a business-as-usual growth strategy, it will be back to the nasty 1980s and 1990s when annual inflation (CPI) was below 6% in only two of those twenty years.

A tighten-your-belts economic strategy cannot be a vote catcher in the magnitude the Modi government is used to. But then neither is rip-roaring inflation, though it will pare down over-leveraged corporate balance sheets in real terms and keep the economic wheels grinding for the top quintile of India’s population, secure in rock-solid government jobs or in lucrative private sector employment.

How horrible would that be? Terrible, from the outside, looking in, because of the inequity of it all. But from the inside – especially, looking up from the bottom- merely more of the same, albeit a far cry from the rousing promises of 2014.

Extracted from the authors opinion piece in TOI blogs

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