The Narendra Modi government’s maiden budget is a fortnight away and expectations are rising that Finance Minister Arun Jaitley will likely continue with the fiscal roadmap announced by his predecessor P. Chidambaram.
Mr. Jaitley may not follow the advice of noted economist Arvind Panagariya, who is an advocate of market-friendly, pro-growth economics. The Columbia University economist wanted the Modi government’s first budget to boost capital spending even at the risk of a higher fiscal deficit.
Mr. Chidambaram came out with aggressive targets to maintain fiscal discipline after rating agencies threatened to downgrade India’s sovereign ratings. According to the roadmap outlined by the Kelkar Committee, fiscal deficit for 2014-15 has to be contained at 4.1 per cent of GDP and further brought down to 3 per cent of GDP by 2016-17. In the 2013-14 fiscal, India’s fiscal deficit was 4.5 per cent of GDP.
Fiscal deficit occurs when the government spends more than it earns. Global ratings agency Moody’s blames India’s high deficit on high debt (20 per cent of government’s revenues goes for debt servicing), huge subsidy on food, fuel and fertiliser and narrow tax base.
To meet fiscal deficit targets, Mr Chidambaram cut plan expenditure and rolled over subsidy costs into the current financial year. Mr Jaitley’s strategy is however likely to be different, analysts say. The Narendra Modi government has won a massive mandate on promise to bring back growth and jobs. Cutting constructive spending will rob the government of a critical growth lever.
Here’s what Mr Jaitley can do to narrow India’s deficit:
1) Cutting subsidies: Among all the key heads of non-plan expenditure items (interest, defense, and subsidies), the scope and need for cutting subsidy related expenditure is probably the highest, says Deutsche Bank. Subsidies cost 2.2 per cent of GDP in 2013-14, but cutting them is easier said than done. The government has denied that there’s any proposal to raise politically sensitive kerosene and LPG prices. Similarly, there is little scope of scaling back the food subsidy bill, given the government will have to adhere to the Food Security Act. However, economists expect a reduction in fertiliser subsidy, which is likely to cost Rs. 68,000 crore this year.
2) Focus on increasing receipts: Gross tax revenue has declined from the peak of 11.9 per cent of GDP in FY 2008 to 10 per cent of GDP in FY14, says Morgan Stanley. The government is unlikely to hike income and corporate taxes at a time when the economy is growing at the slowest pace in over 25 years. The only way to increase revenues in the short term is by increasing the pace of disinvestment. According to media reports, the government is planning to nearly double its divestment target this fiscal year.
3) Cutting back on fiscally profligate social schemes: The government may cut back expenditure on some social schemes initiated by the UPA government. Last fiscal, Mr Chidambaram allocated Rs. 33,000 crore for the National Rural Guarantee Scheme. This was lower than the peak allocation of nearly Rs. 40,000 crore in FY11, but Mr Jaitley can bring it down even further.
Mr. Jaitley also has to work on some medium-term measures, such as the GST, which will bring additional revenues to the government and help bridging the deficit.