governance, political economy, institutional development and economic regulation

Posts tagged ‘Fiscal Deficit’

FM walks the budget plank gingerly

happy kisan

The Union Budget 2018-19 appears an honest and judicious construct when first viewed on video. Reading the fine print takes some of the shine off, going by precedent. The biggest relief is that there has been no substantive deviation from the path of fiscal discipline. The fiscal deficit for 2017-18 is pegged at 3.5 percent of GDP. This is 0.30 per cent higher than the budgeted estimate for this year.

But it is well within the 0.50 leeway recommended by the N.K. Singh Committee report on Fiscal Responsibility and Budgetary Management. Disruptions caused by GST still linger. Banks need to be recapitalised to expand new credit and public investment pushed because the private sector is still sitting on its funds. The stage seems set for walking through the door opened by the FRBM committee, in the interest of growth and jobs.

More reassurance comes from the fiscal deficit target for 2018-19 set at 3.3 percent of GDP. This re-establishes the declining trend for fiscal deficit towards the magic number of three per cent of GDP, which has eluded us so far.

Marginalised agriculture gets a break 

On the expenditure side, agriculture and rural development take centrestage. This is welcome against the backdrop of agrarian distress and farmer suicides. Ajay Jakhar of the Bharat Krishak Samaj points out that an Indian farmer commits suicide every 40 minutes. No wonder then that Mr Jaitley outlined, in great detail, many of the specific measures proposed to reverse this trend.

One popular, but possibly ineffective step is an assurance that all the crops notified for the kharif cycle will be covered under the minimum support price (MSP) scheme. This means that if market prices fall below the cost of production plus 50 percent as margin for the farmer, the government will stand committed to make good the difference (as is being done in Madhya Pradesh now) or to physically procure the produce.

Ajay Jakhar

But representatives of farmers’ interests are not satisfied. They want the methodology for setting costs should be spelt out in a participative manner to ensure that a meaningful MSP is assured. The downside of an MSP type of production incentive is that it kills innovation and discourages crop diversification away from those covered under MSP. This way of assuring farmer incomes also privileges the traditional “Green Revolution” areas in the North, which unfortunately are not well endowed with the natural resources — water, for example — to sustain intensive modern farming. On the other hand Eastern India, has all of nature’s bounties, but it is too far away from the national capital-oriented policy making we follow. Consider how different things would have been if Lord Hardinge had not decided in 1911 to shift the capital of the British Raj from Calcutta to Delhi.

Agro-products exports to be liberalised – $100 billion potential

Other big-ticket items in agriculture are a more than doubling of the outlay for agro-processing industries to Rs 14 billion and assurances that the export of agri products would be liberalised to boost their exports threefold to their potential of around $100 billion. Corporate tax on income was also reduced from 30 percent to 25 percent for firms with a turnover upto Rs 2.5 billion (US $35 million) benefiting 99 percent of the registered firms in India.

Bamboo the new “green gold”


For the Northeast, a Mission for Bamboo – now recognised as a grass and not a tree to facilitate its commercial cultivation – with an outlay of Rs 13 billion. Two new infrastructure funds — one for fisheries and aquaculture and another for animal husbandry — at a total outlay of Rs 100 billion. Crop credit would increase by 10 per cent to Rs 11 trillion in 2018-19 and lessee farmers would be facilitated to access crop credit from banks — something which they cannot do today and have, instead, to rely on rapacious moneylenders.

The budgetary outlay for rural roads, affordable houses, toilets and electricity extension of Rs 2.4 trillion will leverage five time more funds from other sources and generate work for 10 million people, per the Budget documents.

NamoCare is bigger than ObamaCare – health-equity in motion

Big changes were also announced in healthcare. A new flagship scheme will provide in-hospital medical insurance to 100 million poor families with an insurance cover of Rs 5 lakhs. Compare this with the measly cover now available of Rs 30,000 only under the Rashtriya Swastha Bima Yojana. The outlay on health, education and social protection increases by around 13 per cent over the 2017-18 spend to Rs 1.4 trillion. Simultaneously, the three publicly owned general insurance companies – National Insurance Company United India Insurance Company and Oriental Insurance Company are to merged to create a behemoth conservatively valued at Rs 4 trillion and listed on the stock exchange. Listing would enable the government to progressively hive off equity in them to the public and generate the estimated Rs 1 trillion per year premium to fund this mammoth programme, nick-named NamoCare after ObamaCare of the US. The scale of the ambition embedded in the program is breathtaking. A Rs 5 lakh cover is what even the well-off deem sufficient as health insurance. More importantly it signals that for the government the life of the poor is as valuable, as that of a well off person.

Incentives for generating employment rather than buying machines

The government proposes to extend the existing scheme under which it meets the cost of a contribution of 12 percent per year towards the Employees’ Provident Fund contribution in the medium, small and micro enterprises to all the manufacturing sectors. The idea is to increase the attractiveness of employing young job seekers by reducing their cost to the employer for three years, by which time it is expected the skills they acquire will make their value addition viable on its own.

Infrastructure development – falling short

The highlights for new projects in infrastructure are that 99 smart cities have been selected with an outlay of Rs 2.4 trillion,  against which projects worth around 10 per cent of the outlay are ongoing and projects worth one per cent of the outlay have been completed. The government expects to complete 9,000 km of highways in this year. Bharat Net, the fiber connectivity programme, is also proceeding apace. The Railways will spend Rs 1.48 trillion on capital investments, mostly in new works in 2018-19. Six hundred railway stations are to be upgraded.

The nominal GDP in 2018-19 is estimated to be 11.5 per cent  higher than in the current year. The total expenditure next year is around 10 per cent higher than the estimate for 2017-18 of Rs 22.2 trillion. On the revenue side, the big increase is an estimated increase of 53 per cent (after accounting for the fact that GST was collected only for 11 months in 2017-18) in GST revenues next year by around Rs 2.6 trillion to a level of Rs 7.4 trillion, and a conservatively assessed Rs 20,000 crores from the new capital gains tax of 10 per cent on equity sold after holding it for one year. The huge increase assumed in GST and the undefined budgetary support for “NamoCare” make sticking to the 3.3 fiscal deficit target a bit dodgy in 2018-19.

FM keeps his gun-powder dry and in-reserve

Jaitley budget 2018

But who knows, maybe the finance minister has some artillery hidden up his sleeve.. Disinvestment has been assessed conservatively in 2018-19 at Rs 80,000 crores, against the achievement this year of Rs 1 trillion. The bank recapitalisation support of Rs 80,000 crores is expected to leverage new lending capacity of Rs 5 trillion. One cannot but  feel that some of the expenditure estimates are a bit conservative relative to the ambition embedded in the programmes.

The good news is ending 2018-19 with a higher fiscal deficit but equal to this year’s at 3.5 per cent is no big deal from the view point of fiscal stability, if all of it is pumped into infrastructure and other investments. But for the Narendra Modi government, which takes targets seriously, it would be an unhappy ending.

The blog and the article mistakenly mention the estimated value of a merged insurance behemoth as Rs 400 trillion. The error has now been corrected in the text. I am deeply embarrassed by this snafu. A more reasonable number is Rs 4 trillion. Regrets.

Adapted from the authors article in The Asian Age February 1, 2018

Fiscal 2018-19: Revive shared hopes

shared growth

Normally, the fate of the next fiscal is sealed even before the year begins. Barring windfall gains, the economic engines of value addition are quite stable — business keeps running and salts away its surplus; the government similarly keeps churning out public goods; and individuals — particularly us Indians — keep squirrelling away something for a rainy day, even out of our meagre earnings. But who can predict shocks?

But India is vulnerable

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India remains very vulnerable to external shocks — changes in the price of oil, the monsoon, the cost of guarding against external aggression, the state of the world economy and domestic events — more specifically elections, as these take away whatever mindspace the politicians have for sustainable development.

Fiscal 2019 will be election fodder

Fiscal 2018-19 is littered with state-level elections followed by the national general election in the first quarter of the next fiscal. Consequently, expect “plug the hole” type of fiscal tactics to be rampant in the government. Borrowing from banks to invest back in them is one such tactic to stick to the targeted fiscal deficit. Borrowing long but promising to liquidate short-term liabilities is another. This is great fiscal accounting. But that’s where it ends.

Growth data just one metric of government performance

There is a world, beyond the fiscal math, in which we all live. Did you feel the change economically in 2014-15 when economic growth jumped from 4.7 per cent in 2013-14 — the last year of the UPA government — to 7.4 per cent — a jump of nearly three percentage points?

Narendra Modi

Yes, our hopes soared with Narendra Modi’s elevating optimism and high energy. Yes, he made us believe in the future. We felt that we had put a large part of our colonial baggage behind us. But at the ground level, nothing much changed because GDP growth data is just that — numbers which are useful for nerds to track policy impacts and take corrective actions. It’s like the speedometer on your car. It can tell you when you rev up or slow down. But it tells you very little about when you will get to your destination. So please don’t tie your dreams to data. Treat it with the caution it deserves.

Ignore rarified metrics – the stock market & growth, focus on your economic reality

Fiscal 2017-18 will end with a real GDP growth of 6.5 per cent, helped by low inflation, versus 7.1 per cent last year. If you didn’t notice the upswing in 2014-15, you are unlikely to be substantially affected by this year’s downtick. Or for that matter by the uptick to seven per cent growth next fiscal, as the “satta market” for growth (if there is one) would predict. The stock market valuations, as measured by the Sensex, rose by 29 per cent over 2017 with just 6.5 per cent growth. Consider also that the market capitalisation of the top 10 family-owned business groups rose by 46 per cent. Clearly, the business biggies don’t live or die by GDP growth data, so why must you? Far better to hone your own tunnel vision of the economy — real stuff which matters to you, and leave growth rates to the genteel debates between the macro policy wonks.

Telescope 2

If you are one of the 20 million students graduating next year, judge the health of the economy from the availability of jobs. For 118 million farmers, who eke out a living on land holdings of less than two hectares, keeping a lookout for the timing and adequacy of the monsoon means much more than GDP growth. For 21 million large and medium farmers, who account for the bulk of the surplus food grain produced after meeting the needs of the family, it’s the government’s minimum support price for your produce, the cost of fertiliser and availability of water and electricity, which will determine your well-being. The point is that each of us has a specific reality which is only loosely tied to the GDP growth data.

Tying our well-being to the GDP growth rate is seeking false comfort when the numbers rise and equally false despair when they fall. The last two fiscals have been costly. Demonetisation in the third quarter of fiscal 2016-17 and implementation of the Goods and Services tax in this fiscal year were both major disrupters for businesses and their employees. But these are behind us now.

Reduce income tax rates at the lower slabs to compensate for tax reform related pain  

Over time, business entities who survived earlier by not paying tax will disappear. They will be substituted by more efficient, possibly scaled-up substitutes. But all that will take time, well beyond the next two fiscal years. Till the efficiency impacts of tax reforms kick in, the government must take steps to insulate citizens from the pain, just as it held state governments harmless — by insuring them against a fall in their tax revenues.


Citizens, particularly those who took to digital payments and bank transactions with gusto, find they now pay, not only the GST, but also the income tax (possibly never paid before) of the seller. Direct and indirect tax rates must be reduced to keep household budgets stable, till the efficiency impacts of tax reforms kick in.A fiscal bridge is necessary.

Overshooting the fiscal deficit target is ok to preserve capital outlay

Reforming governments factor in fiscal turbulence. If reform translates into collateral pain for consumers, it is dead in the water. We are battling a perfect storm of reforms — restoring the health of banks; reforming the tax structure to improve compliance while reducing transaction costs and dealing with the additional costs of mitigating climate change. It can’t all be done painlessly.

This pain must be shared. The government must abandon its managerial instinct to stick to the budgeted fiscal deficit target of 3.2 per cent this year — in fact it already has. For the next fiscal, the “glide path” for the fiscal deficit must be kept stable, as advised by the majority opinion in the N.K. Singh Committee on Fiscal Reform. Even at 3.5 per cent, the fiscal deficit will be 15 per cent (0.6 basis points) less than the 4.1 per cent achieved in 2013-14. When the facts change, one must change one’s opinions and tactics. That’s the way to shared growth.

Adapted from the author’s opinion piece in The Asian Age, January 6, 2018

Recapturing growth with stability

jaitley make believe

All governments game their performance metrics. Smart governments guard against falling for the make-believe themselves. The BJP stumbled in believing that India had earned an entitlement to grow, faster than China, at eight per cent per year. Well-intentioned measures — to end black money, resolve the stressed bank loans and reform indirect taxes added to the crowded agenda and disrupted entrenched business interests. Growth was bound to suffer because India depends significantly on private entrepreneurship and capital.

Look for low hanging fruit

The government does not have the luxury to cry over spilt milk. It needs to keep delivering public services. Implementing structural reforms — making labour markets less rigid, reducing the regulatory overburden on business and improving poor infrastructure, cannot be done within this year. We must, instead, look for the low-hanging fruit to maintain macro-economic stability this year in the hope of higher, even possibly eight per cent growth, in 2018-19.

Depreciate the INR to real levels to boost exports

suresh prabhu 2

Suresh Prabhu, the new minister for commerce, just days into his job, is already evaluating possible incentives to kickstart export growth, which has languished since 2014. Realigning the Indian rupee to more realistic levels could be his best bet. INR was at Rs 63.90 per US dollar four years ago, in September 2013. Since then higher inflation in India versus the United States has eroded the real value of the rupee. The overvalued INR not only makes exports uncompetitive, it also makes imports cheap, which hurts domestic manufacturing, constrains new investment, inhibits growth and job creation.

Low inflation & oil prices mitigate the risk of imported inflation

Of course, there are negative consequences of depreciating the rupee. A weaker INR and a higher than targeted fiscal deficit might induce a flight of foreign, hot money, anticipating higher inflation. But with inflation at historically low levels — the consumer price index below two per cent — and oil prices relatively stable, high inflation does not appear to be a near-term risk. More important, any slack due to the flight of foreign hot money can be mitigated by domestic investors with idle savings, desperately in search for rewarding investments. A cheaper rupee also has the virtue of discouraging gold imports, which have surged in recent months, by making gold more expensive, relative to the returns on financial investments.

Imported oil and defence purchases will become more expensive

Another downside is that depreciating the rupee by nine per cent makes oil imports, consumed domestically, more expensive by around Rs 30,000 crores. Allowing this additional expense to pass through to retail prices can spur inflation. This means reducing the royalties, taxes and cess on petroleum.

Low growth will also reduce tax revenues

Also with slower GDP growth, the increase in the aggregate tax revenue will be lower. Growth was budgeted at 11.75 per cent (7.5 per cent real growth and 4.25 per cent inflation). The actual nominal growth may not exceed nine per cent (six per cent real growth and three per cent inflation). The shortfall against the target would be of around Rs 30,000 crores. This makes the total revenue shortfall around Rs 60,000 crores.

Wisely, GST glitches already factored into the budget

An additional uncertainty this year is that the Goods and Services Tax might reduce the net tax levels due to the new facility of netting-off taxes paid on inputs. This has caused a flutter in the first two month of July and August with 65 per cent of the GST revenue recorded being set off against input tax credit on pre-GST stock of goods. But fortunately, this possibility had been anticipated and factored into the rather conservatively targeted increase of 6.9 per cent for excise and service tax, whereas customs and income-tax revenue were budgeted to grow by 11 per cent and 20 per cent respectively over the previous year’s collections.  Consequently, the risk of GST collecting less than the targeted amount is minimal.

Relax marco indicators Revenue Deficit & Fiscal Deficit sparingly

The targeted revenue deficit (RD) is already 1.9 per cent of GDP versus the maximum permissible under the Fiscal Responsibility and Budget Management Act of 2 per cent of GDP. This limit reduces the scope for borrowing, to fill the revenue shortfall, to around Rs 16,000 crores. It would increase the fiscal deficit (FD) from the targeted 3.2 per cent of GDP to 3.3 per cent of GDP — not a very significant departure and still considerably better than the FD in 2014-15 of 4.1 per cent of GDP. Also, there is no shortage of liquidity in the domestic market, so the government can borrow without crowding out the private sector. But it would be unwise to waste the hard work of Arun Jaitley, Finance Minister to reign in the FD to 3.9 of GDP in 2015-16; 3.5 of GDP in 2016-17.

Find the money – cut non merit subsidy & fat revenue budgets, not additional debt.

Hefty cuts in revenue expenditure amounting to a Rs 60,000 crore will be needed to maintain the RD at two per cent of GDP.  A targeted approach could be to reduce non-merit subsidies. These include LPG and kerosene subsidy in urban areas. The differential between rural and urban wages should enable urban residents to pay for clean, commercial energy. Reducing the subsidy on urea (Rs 50,000 crores) is an environment-friendly option. The department of expenditure has expertise in identifying and cutting fat budgets. Barring defence, security, social protection, human development and infrastructure, significant reductions in budgeted revenue expenditure are possible to keep the revenue deficit at a maximum of two per cent of GDP.

Incentivise bureaucracy to be decisive & business friendly

tax admin

Balancing the budget judiciously merely manages the negative outcomes of low growth. Removing constraints on exports can add to growth. Similarly, addressing GST glitches and minimising the compliance burden can significantly improve business sentiment. Notwithstanding our administration being colonial in structure, it works quite well under stress with targeted, short-term deliverables. Achieving six per cent growth this year, with fiscal stability, is one such challenge.

Adapted from the authors article in The Asian Age, September 23, 2017


The budget of small things

jaitley 2015

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February is when the Indian Finance Minister (FM) gets flooded with unsolicited help from well-wishers on how to get his job done of presenting the Union government’s annual budget on the 28th.

This time, the flood is a Tsunami as a consequence of the Delhi state assembly electoral debacle for the BJP on the 10th February. Some fears are imagined. Others are real.

BJP only for the rich?

The BJP has traditionally been a party which works well with the private sector. If viewed through a “zero-sum” filter, this strategy could be perceived as working against the immediate interests of the poor. The classic example is whether electricity supply should be subsidized and if so to what extent and in what manner and whether the private sector’s bottom line concern for profitability can be consistent with an electricity subsidy for customers?

The “Davos mafia”- banks, big business and “growth” fundamentalists are keeping a hawks eye on everything the FM now says to detect signs of his wavering from the hard path of economic reforms announced by him last year. Their expectation is that he will resort to “populism” to placate the poor, with an eye on the nearing state elections in Bihar.

Will Bihar drive the budget?

The BJP cannot afford to lose Bihar. Doing so will surely crack the political invincibility of PM Modi. Some believe it is already dented by an ill-advised, last minute tactic in Delhi of pitting the PM versus Kejriwal, even though it was known as early as January 15th when the elections were announced, that the BJP was unlikely to win.  None of this environment is of the FMs making. But it hampers him greatly in being bold, outspoken and visionary on economic reforms- as he has shown an inclination to be.

Statistical flights of fantasy

It does not help that the Indian Statistics establishment has further queered the pitch by an ill-timed release of a new formula for calculating GDP which shows that the UPA government was doing fairly well on growth (6.9%) even in its last year (2013-14) accompanied by reduction in the trend rate of inflation (consumer price index) to 9.5% from 10.2% the previous year.

This raises the bar for the FM in FY 2015-16 to unrealistic levels in growth (>8.5 %?) and possibly also inflation expectations (<5% ?).

The dilemma of the FM is that if he follows a tough approach to economic efficiency he gets branded as heartless and gutless if he doesn’t.

Privatization can soften the subsidy cuts

Privatization of our clunky 277 publicly owned industrial companies; poorly governed 7 public insurance companies and 27 banks is a no-brainer to calm both the heart and the gut of the FM.

The share of publicly owned companies in the Indian stock market capitalization is 48%. If more of them were publicly listed this proportion would increase further.

The capital gains from privatizing- selling at least a 50% plus 1 share in publicly held equity to private investors is sufficient to meet the existing annual aggregate subsidy outlay of around Rs 4 lakh crores (USD 66 billion) for the next five years till 2020 with linked fiscal benefits from tax revenue on higher growth and profitability of these entities. Associated economic benefits like more jobs and employment would be additional.

The FM has the choice of either being fiscally profligate or remaining cautiously courageous whilst perturbing the entrenched interests which feed-off the public sector; a small proportion of unfit employees who would lose their secure jobs; petty contractors who have developed a nexus with public sector contracting authorities and Trade Union leaders. None of these are part of the 300 million poor people of India. Nor are they part of 90% of the workforce, which operates in the unorganized sector as contract labour.

The FM would be well advised to err firmly on the side of “financeable equity”. This objective points him to generate additional revenues to finance selected tax breaks and subsidies.

Here are three suggestions that could set the tone of the FY 2015-16 budget.

Metric of administrative efficiency

First, the FM should announce that this government intends to demonstrate its credentials of being an efficient administration by collecting more revenues from the existing taxes despite offering selective tax relief. This fits well with the already publicized drive against “black money” and the return of undeclared foreign assets of Indian national, residents.  This also reassures tax payers that the government intends to retain stability and predictability in the tax regime.

There is nothing like burning ones bridges to bring out the best in oneself. The FM did this last year by taking up the challenge of meeting a 4.1% Fiscal Deficit target for this year and 3.6% of GDP for the next. He should carry through this resolve now without opting for the “lazy” alternative of using the new, inflated GDP data to project a rosy revenue estimate.

Surplus income with small tax payers boosts demand

Second, the FM should demonstrate the government stated preference for “small government”; private finance lead investment and the market.

One equitable way of doing this is to leave more income in the hands of the small tax payer by increasing the income tax-free level from Rs 2 Lakhs per year (USD 3300) to Rs 5 Lakhs (USD 8200). This simple measure takes 90% of the existing assesses (around 29 million in numbers) out of the tax net but impacts only 10% of the revenue.

Pancaked, indirect taxes on consumption (customs/excise; sales tax; municipal taxes) drain 50% of the disposable income of such tax payers in any case, so there is an equity view point also along with the argument for the greater efficiency of a more focused and selective tax effort.

Increase tax revenue equitably and efficiently

India’s tax revenues need to be increased by at least 1% point of GDP but not by continually “milking” the narrow tax base available historically. This approach is neither efficient nor does it build political credibility amongst the tax victims –the salaried middle class. Imposing a new, low tax with a huge tax base as on stock or commodity market transactions and siphoning off a part of the windfall due to the crash in oil prices could be two such option.

Extending income tax to the creamy layer with huge agricultural assets on a presumptive basis is a must. Tax free agricultural income is the easiest refuge for rebranding “black money” as “white”. This loop hole needs to be stamped out.

Agricultural income tax is a tax resource reserved for the State governments. But the Union Government could incentivize States by offering a higher share of GST to states willing to introduce agricultural income tax. This would be in the spirit of efficient, equitable, cooperative federalism.

Third, the Jan Dhan Yojna for financial inclusion has opened 125 million new bank accounts during the last few months. The bulk of these accounts remain dormant. But despite such caveats, this is a good scheme. Recent work, including by Thomas Piketty illustrates that personal wealth is the biggest asset in incremental wealth creation. Why not extend then, albeit in a small measure, the key to wealth creation to the poor also?

Endow the poor for wealth creation

Dhan” (wealth) is an asset-something you own. It is a pre-condition for wealth creation. Why not open bank or Post Office accounts for the poor also? Of course the poor have no surplus to put into a bank. But the government can fill this gap by depositing Rs 10,000 (USD 164) into each of the bank accounts of all “poor” account holders as a 10 year fixed deposit from which only the interest income would be available to the account holder till maturity. To narrow the ambit and the financial implication of the scheme initially, only poor women and poor senior citizens (the most marginalized of the poor) could be eligible.

Fiscal fundamentalists will deride this measure as irresponsible in an environment when subsidies have to be contained, if not reduced. There are two reasons why their apprehensions are unfounded.

First, the small value of the deposit and its unavailability for withdrawal for 15 long years reduces the attractiveness of the scheme for would be scammers. The annual interest earned of Rs 800 (@8%) per account is not enough to attract fraud but sufficient to keep a genuinely poor person interested in the account as a source of additional income. For the Bank this provides a pool of valuable long term resources for their Treasury operations.

Second, the fiscal outlay, whilst significant, is not unmanageable. The likely pool of “poor” women and senior citizens would be around 200 million. If full coverage is targeted over a three year period, an annual budgetary allocation of around Rs 70,000 crores (only 18% of the existing aggregate allocation for subsidies) would be required. The spread effect, both political and economic, is hugely significant.

In comparison, the Union government alone spends an estimated Rs 4 lakh crores (USD 66 billion or 4 % of GDP) on subsidies. Much of this outlay is either lost in transit to the beneficiary (as in food subsidy- refer to Ashok Gulati, India’s brilliant agricultural economist) or the targeting of the subsidy is so vague (fertilizer and energy subsidies) as to benefit the poor only marginally. A “wealth and income transfer” scheme aided by the Unique Identification mechanism, where available, is likely to be more efficient and effective.

The recent developments in Southern Europe and now in Delhi should convince Mr. Jaitley that “demonstrated equity and inclusion” as a “brand” is in. Citizens do appreciate a tough “reforms” stance. But it must be balanced by effective instruments for income transfers to the poorest of the poor.

Budget 2015: Swap higher outlays for efficient spending

jaitley dnaindia.com3  

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A cold Republic Day had FM Jaitley looking dapper under his stylish cap as he snuggled into his overcoat on a rain lashed Rajpath munched nuts and broodingly watched the parade go past.


Was he fleshing out what he would say in his budget speech to the Indian Parliament just one month away?  Should he bowl a leg-spin veering sharply left towards equity or an off-swing veering right and towards growth? Around him, on its 66 Republic Day, Modi India was visibly exhilarated celebrating its “off-swing” to the right.

China, possibly stung by this sudden change of events, after the cozy, bon homie of the recent jhula swing on the banks of the Sabarmati, retorted by clasping Pakistan even tighter as an eternal friend. Meanwhile the Greek “loony left”, united with the “loony right” to aspire to become a sovereign debt defaulter with the rest of Southern Europe waiting to follow, should their anarchic tactic succeed.


Avoiding payment by default is not a new strategy. Latin America similarly exploited the short memories of lenders with serial debt defaults.  In contrast Asia, in general and India, in particular, has been very puritanical about its debt obligations, never having defaulted even once in the last forty years, though we came close to it in 1991.

Whilst morally correct, it is unclear if this is a good fiscal strategy. Standard and Poors rates India sovereign debt BBB-, the same as Brazil (which defaulted thrice-1983, 1986 and 1990 in the last 40 years) and lower than Peru-BBB+ (which defaulted twice in 1980 and 1984). From this perspective, debt default is not about “prestige”, “national honour” or about financial rewards. It is merely a game of brinksmanship to be played with the market, if it serves us well.

Was FM Jaitley pondering the merits of doing a Latin America; borrowing recklessly to finance a populist, public investment binge, which “growth-wallahs” are crying themselves hoarse demanding?

Borrowing more is the “soft” option to reforming expenditure since tax collections have dipped. Our borrowing capacity for FY 2015-is limited by a Fiscal Deficit (FD) envelop of 3.8% of GDP, down from the target of 4.1% in the current year. Even the higher FD level severely constrained resources though this constraint remained hidden. The previous UPA-II government put so many non-fiscal barriers on investment-lengthy environmental approvals; land acquisition constraints and contractual inconsistencies which ensured that the project stream froze thereby avoiding additional cash outflows.

The present government is working overtime to unclog the pipes and clear payment arrears. These have built up over time but they do not show up in the budget. Unlike Indian companies, the government follows the “cash” and not the “accrual” accounting system. Both unpaid current liabilities and uncollected current assets are not accounted for in the annual budget. This loop hole enabled the previous government to “sell our future” by collecting arrears whilst falsely showing a robust budget allocation.


Indian “growth-wallahs” are prepared to risk inflation if it means pushing growth to 7% from the 5.5% it is likely to record in the current year. But the trade off, at the margin, between growth, inflation and jobs is unclear. This is dangerous ground for those living on the edge.

Growth is just a meaningless number for the average citizen. Jobs are welcome of course. But we do not have a “jobs filter” that can assess competing investment.  We do not even measure changes in employment through the year. In comparison inflation is an everyday reality which the poor and the urban lower middle class have to battle with daily.

If there is a choice between growth and more inflation, the FM would be well advised to choose containing inflation to below 5% even at the cost of chugging along at a 6% growth level.


The real question is if the domestic and international private sector is unwilling to invest, as for example in Nuclear energy, how can it be desirable for public investment? Clearly, an unhelpful institutional context makes these investments into “lemons”. Unless the root causes of their unviability are addressed, such projects are neither good for the private nor the public sector.

Public investment stoked growth is strongly dependent on the efficiency of public expenditure and the avoidance of “pork”- gold plated projects which fail to provide social returns and jobs. Excessive investment in new renewable energy (a rapidly evolving technology) has precisely this risk.


Of course the stock markets will not be enthused by such fiscal caution. But who really gains from the irrational financial exuberance (or despair) of stock markets except a few savvy speculators with deep pockets- not all of them Indian either.

Real Estate is another sector which should be left to lag not lead growth. It is a safe haven for “black money” fed speculation. Five years of cheap money since 2009, high inflation and massive corruption are the drivers of the Indian realty bubble. We have to guard against such bubbles, which consume the savings of the middle class, as in Japan (1980 to 1990) and more recently in the US (2004 to 2012).


One stratagem to inject conservatism into the budget would be to project the FY 2015-16 budget on the growth and revenue numbers which were achieved in 2014-15.

Looking backwards to define the fiscal envelop will further constrict spending estimates. But this would be a useful, albeit unorthodox mechanism, to drive better collection of tax and non-tax revenues and contain “pork” in the spending estimates.

If there are “happy” surprises – revenue exceeding estimates or growth exceeding forecast levels, the surplus generated could be allocated to pre-defined schemes in a supplementary budget later in the fiscal year. Leaving something on the table is good strategy anyway to keep stakeholders engaged and responsive.

Our biggest worry is that populism will trump reason. Subsidies are the elephant in the room of fiscal responsibility. Rationalizing them has become a political hot potato with potentially high political costs. This is why reform needs to be both well timed and appropriately sequenced.


FY 2015-16 is the only reform window available to India for the next four years. If we can’t do it now we never shall. The 2016-17 budget shall be populist since Bihar (2016), UP (2017) and then Rajasthan, Karnataka, Madhya Pradesh and Chhattisgarh go to the polls (2018) followed by National Elections in 2019.

Can we, for starters at least, legislate a cap on subsidies just as there is a medium term trend and cap on FD? We don’t know enough about the extent, substance, nature and social impact of subsidies. Why not make these aspects more explicit by changing the way in which we present the budget documents?

Two subsidy reform steps are immediately doable.

First, making petroleum prices market determined is a no-brainer in the present scenario of cheap energy. This will plug one gap in the subsidy envelop.

Second, rationalize agricultural subsidies which are provided through multiple mechanisms; assured purchase prices for cereals; cheap fertilizer; cheap power; cheap irrigation water; no tax on income and minimal tax on land. Despite these subsidies, rural wages remain low and migration to urban areas is the only options for landless workers and marginal land owners.

These subsidies have only served to create a class of elite “millionaire” farmers; a tiny fragment at the very tip of the 600 odd million strong farming community. Why not use it to better target the poor, rural folk instead? An additional advantage would be that the rural poor have a significant overlap with Dalits and Muslims, neither of which are part of the BJPs traditional support base.

Will FM Jaitley grasp the moment and push through reform or do we have to wait till 2020 for substantive change?

Why Planning Died in India



So what will the post-Plan India look like?

Will we veer away from the soaring flyovers; highways straight as Arjun’s arrow; high rise apartments and carefully “zoned” areas, typical of planned development and turn instead towards the squiggly, irregular lines so dear to the foreign tourist, of “charming”, little, oriental streets; buildings leaning precariously into each other; roads not wide enough to turn around a decent sized car; gloomy, shaded rooms looking inwards onto resplendent, inner courtyards with shops, factories, homes, schools and hospitals all thrown higgledy-piggledy together in the best tradition of “organic growth” fueled by private money?

Unlikely, because even the most ancient, known, Indian city-Mohenjo Daro- built in the 25th century BC was based on a rectilinear street grid (now in Pakistan) and is completely at variance with the more recent, albeit charmingly romantic, memories of traditional Indian living.

If the ancient past was at variance with recent memories, the present is rapidly evolving.  Indian values and needs are changing in response to the open economy framework adopted since 1991 and the associated diffusion of technology, competition and choice. The change is so rapid that formal institutions have yet to catch up.

Neither our laws, nor our judiciary caters to the frustration of young Indians with the plethora of “limiting”, formal traditions.

Take for instance, the case of gays, lesbians and trans-genders. Our law demonises them. But most Indians are easy about adapting to them in the same way “hands-off” manner as they good naturedly, accept foreign customs, like opening doors for women ( a custom rapidly becoming extinct in the West); as a quaint sub text of life.

Cross religion marriages is another example. It is not the norm but is generally accepted if neither family objects. Young India takes to anything modern with a vengeance. Hafiz Contractor’s lurid architecture; skin fit jeans; soppy “friends” style TV serials; head banging, electronic music, offensively fast food and horribly over-priced lounges.

Aspirational India likes multilane highways, fast bikes, week-end car holidays, fourteen hour work days, nuclear families, steel and glass buildings, swanky airports; e-commerce and want rapid change, within their lifetime.

The rapid economic growth associated with these aspirations has usually been scaled up, to encompass the middle class, only by planned investments and heavily regulated economies, as in East Asia. The downside has been rapid grow in pockets of affluence; carefully screened off; insulated from the sordid reality of the poor. Planning to skillfully create a bubble of affluence, access into which is carefully monitored for those make the bubble real but who are excluded from the bubble, except as service providers.

But if Plans and Rules cater only to the rich does it really matter if we stop planning? Even if a random approach is adopted for public investment management there is a 50% chance that investments will benefit the rich and the poor equitably. In contrast, the Impact Assessment of Planned Programs for the poor does not have a better “hit rate” so who cares?

For starters, let us recognize that the death of Planning is not new. It died a quarter of a century ago when the Berlin Wall fell in 1989.

First, the planned share of private sector in investment has been increasing with every plan and was at 50% of total investment in the last Plan. So irrespective of how much money the government invests, so long as the private sector meets its targets we could hit at least 50% of the growth target so long as the government ensures a facilitating investment environment.

Second, public investment spend comprises just 21% of total public expenditure every year. The rest goes towards meeting the existing recurrent liabilities of interest (33%) salaries (8%) and other operating expenditure just to feed the public “beast”. Rather than increasing public investment by increasing taxes, far better to leave the surplus with private actors and encourage them to invest.

Third, of the 21% which is available for public investment there is no easy way of knowing how much needs to go for funding completion of ongoing projects and what then is the residual fiscal space for new projects. It is telling that even the Union Government budget documents are not transparent about this important distinction in resource allocation.

The suspicion is that if Fiscal Deficit targets are to be achieved there is very limited fiscal space for new projects. A careful inventory of approved but unfinanced projects could reveal a project stock as high as investment spending over the next five years. This is not new and explains why the practice has been to spend on new projects by starving existing ones, so as to please the largest number of political constituencies.

Remember that incomplete road outside your window which rakes up columns of dust every time a motorcycle zips by? Well the reason why the engineers, you curse daily, are taking so long to complete it, is that money for a road or any other project is not allocated and frozen at the time the project is approved. Allocations lapse at the end of the year and fresh allocations made against which cash is released piece meal, depending on the relative power of conflicting political constituencies.

Fourth, planning died because Planners did not reciprocate the faith put in them by citizens. They “gold plated” projects (Commonwealth Games); failed to anticipate technological change and innovation (Public Transportation) and thereby created huge stockpiles of inefficient and unsustainable assets, financed by public debt.

PM Modi probably knows this and consequently is no hurry to devise a new planning set up. Of course every government wants to leave its “footprint” encrusted in projects. The Modi government is no different, if one is to judge from the bouquet of projects hurriedly announced and allocated notional amounts in the 2014 post-election budget.

The only hope this time around, is that there may be more emphasis on creating a facilitating environment and encouraging the private sector to invest rather than using public funds to determine the future.

The test case will be Defence Production. If the government can get the domestic and foreign private sector to invest in “make in India”, against buy back assurances, we shall be starting on an even keel. Nothing much there for the poor to cheer, except some trickle down in construction and services, but at least the middle class can look forward to more jobs and better wages.

Jaitley’s Maiden Budget Mujra


“Mujra”, the traditional PakIndia dance of seduction honed in glittering Lahore, immortalized by the ever beautiful, dusky Rekha in Umrao Jan, a classic film by our very own desi, aristocrat, designer Muzaffar Ali. Mujra is a dance of deception. The idea is for the danseuse to so mesmerize the viewers, that their head gets delinked from their heart and money slips through their loose fingers, like a snake escaping from fire.

All Finance Ministers have to be expert Mujra dancers. This will not be difficult for Arun Jaitley. First, he is a lawyer and those of his ilk are masters of deception. They apply the art of “need to know” whilst arguing in court. The need being to win the case of course. Second, Jaitley is a Panjabi. Amritsar, just an hour away from Lahore, rejected him for Patiala Royalty. But all Panjabis, on both sides of the border, know that when Royalty comes calling, others have to step aside.

Finance Ministers stamp their personalities on the speech they make on budget day in Parliament. Only the Mujra of the speech is different. The budget proposals have remained much the same since the Union Jack made way for our Tiranga in “our tryst with destiny”.

Manmohan Singh radiated “good intentions” and technical competence but was as dry as the Gobi desert

Yashwant Sinha, a babu, was all technical arguments and feigned “savoir faire”, as babus are when they stop being babus. Technically correct, but forgettable.

Chidambaram was Tamilian guile and sophistication coupled with brains sharper than a pair of “Shun” knives. But off-putting with his so very deliberate speech, which seemed consciously slowed, to enable the rest of the World to catch up with him.

Jaitley is different. In his latest avatar he is a cuddly as a Panda and larger now than a Sumo wrestler. But his personality radiates from his heart, which is as solidly Panjabi, as Amritsari Fish. His style is argumentative erudition bordering on the pedantic and mildly adversarial. He needs to watch that. Budget session is all about consensus, not contest.

But don’t be fooled by the style, the special smile, the sensuous, sliding look through the sides of the eye or the fluttering hands of the Mujra dancer. Look past the flashing diamonds on display. Look closely at the core service being offered and then and only then, make up your mind to loosen your purse.

Here are seven core indicators to signal whether or not the Finance Minister is serving you well.

First, has be budgeted for a decrease or an increase of the Fiscal Deficit over the FY 2013-14 budget? Forget the 2014-15 interim budget presented by the UPA it was worse than Mujra. It was pure American “smoke and mirrors” designed to set impossible benchmarks for the next government, which UPA was sure would not be them.

The Fiscal Deficit in India is the difference between the total income of the government plus recoveries of loans and what it intends to spend, loan or gift over the next year. It is financed by borrowing at between 8 to 9% per annum. If it is being spent on the salary of an absent policeman or a sleeping babu, there is no way the government can get a matching “economic return” on that amount. So be very wary if the Fiscal Deficit is increasing in nominal terms over 2013-14. If it remains at the same “nominal “level you are winning because inflation has eaten away 8% of last years value. The Fiscal Deficit in 2013-14 was (hold your breath) Rs 5,24,530 crores or Rs 5,254 billion.

Do not be fooled by sops like a reduction in the excise duty for automobiles or enhanced allowance for setting off EMIs against Income Tax on loans taken for buying property. Do not rejoice even if the Income Tax Free limit is raised. Inflation can eat away these “notional” gains faster than water flows through Delhi’s clogged drains.

If you are not a senior or a super-senior citizen and earn Rs 600,000 a year pre-tax, an 8% inflation eats away Rs 48,000/- of your income. Compare this with “Mujra” gains FMs tend to give:

  1. A 5% point reduction on the excise duty for a car worth Rs 600,000 comes to only Rs 6,000 per year over the five year life of the car.
  2. The FM would need to raise the “free of income tax” limit from Rs 200,000 to Rs 300,000 and similarly raise the upper limit of the band in which you pay Income Tax at 10% above the free limit, from Rs 500,000 to Rs 600,000, just to neutralise the likely impact of inflation on your purchasing power. A change in Income Tax rates on this scale is very unlikely to happen.

Of course, if you are one of the 18 million lucky ones, working for the government, or if you are one of the estimated 10 million government pensioners, you need not bother about inflation. The government meekly and automatically adjusts babu salaries (including allowances) and pensions, twice a year, for inflation, which ironically, is caused by the loose fiscal policies; inefficient expenditure decisions and corruption within the government.  

If you are not a babu and still under the age of 28, try and become a babu to get the “life-long” immunity from inflation. It’s a one-shot vaccination. If you have crossed that age limit, your only option is to not spend/save at least 8% of your monthly income because you will need it later in the year to cope with rising prices.

This blog intends to discuss one “citizen budget indicator” a day till July 9, 2014 so watch this “Mujra” space closely. 

The first indicator is the budgeted estimate for Fiscal Deficit: (1) Rs 5000 billion. Rating: Outstanding (2) Rs 5300 billion. Rating: Good (3) Rs 5700 billion or more: Rating: Poor              



PM Modi’s second governance test


Success attracts its own supporters. Narendra bhai epitomizes the success of merit and dedication. It is not surprising therefore, that supporters, including erstwhile critics, both national and international, are thronging his doorstep for a darshan.

There are visible signs that the public adulation has not gone to his head. He has shot down an attempt to curry favor with him by BJP governments, by revising the textbooks with a chapter devoted to him as a role model. This is very welcome and good news.

But a big governance test will confront him over the next two months.

Can he support the Finance Minister deliver a “realistic” budget which does not fudge either revenue receipt or expenditure- two favourite tricks of budget managers to fool the public, adopted by the UPA2 in its last budget? Second, can he reduce the fiscal deficit below the level of 4.9% in 2012-13; the last “normal year” data available. The Fiscal Responsibility and Budget Management Act 2003 targeted a maximum Fiscal Deficit level of 2% by 2006. We never achieved that level. The best was 2.7% in 2007.  A plan to reach close to this over the next 3 years, by reducing it by 0.5% point every year is sorely needed.

Growth fundamentalists will shout that this is retrogressive. His advisors eager to “kick start” the economy and show dramatic results will advise him to throw fiscal caution to the winds and spend his way out of the economic downturn. But none of the growth fundamentalists can guarantee that “kick starting” growth by public spending actually adds jobs for the poor. Indeed the evidence is adding up to quite the reverse conclusion. Public spending windfalls (as in the Common Wealth Games), line the pockets of the top 1% of Indians, whose business margins soar and of shareholders, whose equity capital appreciates (on which there is no tax at all!). But the impact on jobs is likely to be lagged or minimal.

Narendra bhai’s best bet is to listen to his RBI Governor who is the protector of the poor and the salaried middle class, against the ravages of inflation. The PM should let the RBI Governor set inflation management targets and measures, without restraint. This approach is not sexy, stodgy and reminiscent of IMF style fiscal fundamentalism.

But the short term strategy of boosting the stock market and growth numbers through massive public spending, would be dangerously negligent for an economy, like India, where over 60% of the people are poor, unskilled and live mostly in rural areas and are unable to access jobs in the market economy. For 40% of the people living in urban areas, who are poor, inflation is a bigger calamity, because wages are stickier than prices.

Unearthing black money is being considered as a revenue earning measure, which could painlessly increase the spending power of the government. It also sounds like a “win-win” solution since it responds to the high moral objectives of good governance.

But Narendra bhai, must consider that, Black Money is the lubricant, which keeps the economy ticking today. There are more than 300,000 new, unsold flats clogging the inventory of builders and investors because growth prospects are uncertain. Much of the real estate boom was driven by Black Money fueled speculation, betting on high growth to keep the Ponzi scheme going. But the boom in construction activities did create jobs. A war on black money will directly impact any revival of the listless real-estate market, the economy and jobs. Timing is everything in successful governance reforms. Black money has many negative consequences. But the time to become like Denmark is in a boom, not during a bust.

There are no short cuts to fiscal stability. Cutting back on the governments wasteful recurrent expenditure (which comprises 80% of total expenditure); enlarging the tax base and better tax collection are key priorities.

In this context, good governance, would dictate that tough, unpopular decisions need to feed into the 2014-15 budget:

(1)    Target a real reduction in revenue (current) expenditure of 10% over the previous year. Over 50% of the current expenditure comprises interest payments and subsidies. Salaries account for only 8%. As a result, the wage bill is rarely targeted. But just by restructuring Railways into a corporation and the Postal Service into a bank and a corporation, nearly 50% of the wage bill can be taken off the public payroll. Other benefits from corporatization would also accrue.  

(2)    A majority of central government officials, including in the ministries of coal, power, steel, mines, oil and gas, chemical, fertilizers, civil aviation and telecom spend their time, second guessing, remotely managing or monitoring Public Sector Enterprises. This is a wholly unnecessary job. Transfer the lot of them to the concerned PSE. This will automatically reduce the size of most ministries. Appoint professionals to the Boards of these PSEs, instead of the “shoo-ins” we have today. PSEs are not the “jagirs” of the concerned administrative ministry. “Shoo-ins” are popular today, as Directors of PSEs, because the concerned Minister and the PSE management are comfortable with them. But they do nothing for improving the efficiency of the PSEs.

(3)    A second, large chunk of central government employees spend their time administering development schemes implemented by the state governments, but funded either wholly or partly. by the center (central sector schemes). These are wasteful tasks. Hand the task of monitoring such schemes over to NGOs. Send the concerned ministry officials to these NGOs on deputation and get them off the government’s payroll.

(4)    Cut back the long chain of command in Ministries. Today a file passes through at least five levels of scrutiny (i) Section Officer(ii)Under Secretary(iii) Deputy Secretary-Director(iv) Additional Secy.-Special Secy.(v) Secretary. This is way too long. The Secretary should be at most the third level dealing with a file and not the fifth.

(5)    Filter all incomplete and new projects for their private employment and poverty reduction potential. Fund only the ones with the best “social and economic returns” and review what to do with the “politically sensitive” but wasteful, other projects. Bridges to nowhere and empty but beautifully carpeted roads, are “pork”, not development.

(6)    Finally, target fitting the “core” ministries (External Affairs, Defence, Home, Finance, Power, Coal, Mines, Transport, Agriculture, Industrial and Urban Development, Social welfare and Women and Child development), into the space available in the glorious North and South Blocks, which was meant for them. Make space for them, by shifting the PMO into the Rashtrapati Bhawan complex, which is conspicuously vacant. Lease the vacated Bhawans, along Rajpath, to the private sector to earn additional revenue. This will also spare us the drab view of Soviet era, building blocks.

This is the nit-picky governance agenda which the UPA never attempted. A bloated central government, with lots of fingers pointing at each other, is not compatible with Narendra bhai’s ambition and our expectation of effective governance.

Achieving the Fiscal Deficit target for 2014-15 of 0.5% point below the 4.9% actual deficit in 2013-14 by reducing the current expenditure of the central government, is the PMs second test in governance.  

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