An interest burden growing faster than GDP growth by 2.5 percentage points is not a comforting signal for fiscal stability.
Over-performance can, sometimes, be worse than under-performance. Going by privately shared opinions on why Vikram, the moon lander, had crashed, it was because the rockets supposed to decelerate its descent worked overly well, making it drift sideways instead of descending in an orderly manner — much like a skydiver thrown sideways off-target by a sudden high volume updraft.
Similar updrafts, but this time of an entirely endogenous nature, are throwing the finance ministry’s cross-country public contact effort off-course. Far from reassuring industry and other stakeholders that the ministry has matters under control, the impression gaining ground is that the ministry has trapped itself into a make-believe fiscal corner, from which it is fending off perceived attacks. It doesn’t have to be this way.
A high-spend, high-tax rate regime works so long as growth is also high. Incomes increase for those who have good jobs, higher consumption trickles down as income for the bottom 40 per cent whilst higher public and private spends on infrastructure, based on borrowed money, benefit agriculture, industry and business. This construct collapses the moment growth slows down.
The expanded fixed liabilities of the government become unbearable as growth in tax and non-tax revenue slows down sharply. Consider that this fiscal the fixed annual liabilities of the government (establishment expenses and interest payments) is budgeted (in nominal terms) to increase by nine per cent over the previous year. Of this, 55 per cent is the cost of interest, which is budgeted to increase by 12 per cent over last year.
Sadly, going by the results in the first quarter and the continuing economic slowdown in the second quarter, nominal GDP is unlikely to grow by more than 9.5 per cent in FY 2019-20 (6 per cent real plus 3.5 per cent inflation). An interest burden growing faster than GDP growth by 2.5 percentage points is not a comforting signal for fiscal stability.
Tax receipts in FY 2018-19 at Rs 13.2 trillion were 11 per cent short of the target of `14.8 trillion and grew by barely six per cent over FY 2017-18. In the current fiscal, tax receipts — April to July 2019 — account for barely 20.5 per cent of the annual target, marginally better that the 19.8 per cent achieved last year. But remember that last year tax receipts under-performed by 11 per cent against the annual target. Something similar is likely this fiscal too.
Meanwhile, revenue expenditure also grew slower than last year, at 34 per cent of the annual Budget compared to expenditure level of 36 per cent of the Budget last year in the same period. This illustrates that the government has recognised the fiscal problem and is hunkering down to cut its coat to fit the cloth available. All this becomes necessary if the government is to achieve its fiscal deficit target of 3.3 per cent of GDP by March 2020.
But is it the right time to exercise fiscal restraint? The government is going to have to fill a gap of around Rs 1.5 trillion on account of lowered tax receipts even after receiving a bonanza of Rs 1.49 (Rs 1.77 trillion less `0.28 trillion already paid last fiscal) from the Reserve Bank of India against the budgeted receipt of Rs 1.05 trillion on account of dividend from banks, other financial institutions and the RBI.
The trade-off in aggregate terms is between slashing variable revenue outlays by six per cent across the board and allowing the fiscal deficit to increase to four per cent of GDP where it was in 2015-16 after the first year of Modi 1.0. Late finance minister Arun Jaitley had courageously accepted and succeeded in meeting the challenge, thrown by the departing UPA government, of compressing the fiscal deficit below the 4.5 per cent of GDP achieved by it in the last year.
Sadly, today, there is little discussion around the trade-offs between meeting the FD target on the one hand or alternatively, adopting a nuanced, less prescriptive approach to maintaining fiscal stability. Possibly, the government feels that anything less than expressing absolute certainty could be taken as a mark of weakness.
This strategy is puzzling. We do not expect our rulers to be gods. Mistakes happen. More importantly, if there is one thing India understands, it is the destabilising impact of external shocks.
Consider that the liabilities (public debt plus small savings, provident funds and securities issued in lieu of subsidies to fertiliser and oil marketing corporates but excluding guarantees) of the Union government are expected to increase to Rs 98.7 trillion by the end of this fiscal. This is 48 per cent of the expected nominal GDP of around `205 trillion. The public debt of the Union government at Rs 80.6 trillion, or 39.3 per cent of GDP, is scraping the ceiling of 40 per cent prescribed under the Fiscal Responsibility and Budget Management Act 2003. All this does not take into account the heavy debt incurred by public sector enterprises as off-budget financing for the government.
An economic slowdown is the best time to initiate drastic reforms. The reforms in land, labour and agriculture are long overdue. The 15th Finance Commission will also be submitting its recommendations soon. Should there be another or is this the last such commission? A Direct Tax Code is in the works. Plurilateral agreements between the Union and the state governments, in the case of the GST, have already determined a 50:50 share between the Union and the states. An added sweetener is an assured 14 per cent annual growth in GST revenue for each individual state till 2022. This assurance is a millstone around the Centre’s neck today with the economy growing slower at 9.5 per cent. The merging of excise tax on petroleum products and liquor into GST is another tax reform waiting to happen. Both these commodities are genuinely “sin goods” and fit to be in the 28 per cent slab, which is today undeservedly used for consumer durables.
Sadly, there is very little discussion around these core economic issues. The narrative has diverged into mega “branding” strategies — bank mergers, incremental liberalisation of FDI, digital tax assessments to reduce corruption and the like. All these are necessary, but are not at the core of economic growth. Continuously burnishing the pot, with no fire lit under it, can only be of transient interest to a hungry diner.