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Budgetary challenges for new govt - Outside View by S.S. TARAPORE

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Budgetary challenges for new govt
Jun 2, 2014

The biggest challenge before the new government is rectification of the fiscal deficit. Time and again, governments have vowed to bring about fiscal correction, but invariably, after some initial efforts, there are fiscal slippages. While undertaking fiscal correction, it is essential to eschew from fiscal gymnastics to show a lower deficit.

The new government is not a hostage to coalition imperatives and should, therefore, be better able to deliver on its basic plank of minimum government with maximum governance. While undertaking a fiscal correction, attention needs to be given to distributive justice.

Sequencing of inflation control and growth

While undertaking monetary-fiscal coordination, it is essential to appreciate that easing of monetary policy can be sequenced only after fiscal correction and inflation is brought under control. In other words, reduction in inflation must precede easing of monetary policy. To the extent there is fiscal correction, there would be headroom for easing monetary policy. Hence, there is need for caution in undertaking monetary-fiscal easing before inflation comes under control.

Key fiscal dimensions

As per the Interim Budget for 2014-15, the total Central Government expenditure is estimated at Rs 17,63,214 crore (13.7 per cent of GDP). The fiscal deficit is estimated at Rs 5,28,631 (4.1 per cent of GDP). While the size of the fiscal deficit appears to provide for some correction over the previous three years, there are two problems. First, there are strong possibilities of the Interim Budget having a large throw forward of expenditure from 2013-14 into 2014-15; again, some revenues due in 2014-15 have been advanced into 2013-14. Secondly, a staggering 30 per cent of total expenditure is financed by the fiscal deficit, which clearly reflects a weak fiscal position. The domestic market borrowing (net of repayments) is estimated at Rs 4,92,000 crore, while the gross borrowing is estimated at Rs 5,97,000 crore. Moreover, information coming out of the ministry of finance hints at the need for a further enhancement of the borrowing programme by Rs 70,000 crore. The debt servicing (repayment of debt and interest payments) in 2014-15 is estimated at about 37 per cent of revenue receipts.

Internal debt explosion

Finance Commissions in the 1980s and early 1990s repeatedly warned about an internal debt explosion and the need to provide for debt repayment. Fiscal pundits, however, provided a disservice to the nation by rejecting the theme that domestic debt is a major crisis looming on the horizon. These fiscal pundits argue that a sinking fund makes no sense while there is a fiscal deficit and furthermore, that the domestic debt burden will resolve itself. Therefore, the recommendations of successive Finance Commissions for the setting up of a sinking fund to redeem internal debt were rejected by the central government despite the Reserve Bank of India (RBI) having prepared, in 1996, a comprehensive scheme for setting up a sinking fund. It is unfortunate that the 12th and 13th Finance Commissions side-stepped the issue. The new government would be well-advised to specifically seek the advice of the 14th Finance Commission on the feasibility of setting up of a sinking fund for the central government.


The food, fuel and fertiliser subsidies are estimated at Rs 2,55,700 crore in 2014-15. There are reports that close to Rs 100,000 crore of subsidy on LPG and diesel is overdue. An economy cannot subsidise itself and the burden has to be borne somewhere in the system. Ultimately, the burden manifests itself in inflation. It is clear that there is a considerable degree of misapplication of subsidies. For instance, food stocks, way beyond the prescribed buffer, result in a heavy burden on the fisc by way of interest and storage costs as also wastage. Thus, there is an immediate need to unload excess stocks on to the market, which would cool food inflation. Again, the standard domestic LPG cylinder is sold at Rs 460 per cylinder, while the actual cost is Rs 1,160. The earlier proposal was to undertake all sales at the Rs 1,160 and provide a direct cash subsidy to all consumers. The intention was to cut back subsidies for all other than the target group. Once subsidies are given to all, it is difficult to claw back the subsidy. The petroleum ministry has called for a hike in the price of the LPG cylinder by Rs 250. This would be difficult to implement. It would be best to go for a quarterly increase of Rs 50 and restrict the subsidy strictly to BPL users.

Some thoughts on direct taxes

There are strong expectations in industry that the new government would provide a strong fillip to growth by providing incentives. In such a clime it is unrealistic to expect the government to increase taxes on the upper income groups.

At the same time, middle and lower income groups have experienced a significant erosion of real income in view of the relentless inflation of recent years. Hence, there will be a clamour for reliefs in these income groups via raising the income tax threshold, as also providing incentives for savings. Since dividends from companies and mutual funds received by individuals are exempt from income tax, there is a case for also exempting interest income on bank fixed deposits up to an amount, say Rs one lakh per annum.

Need for fiscal caution

There would be heavy pressures for fiscal giveaways. Given the precarious fiscal position such relaxations should be avoided. The need for caution on the fiscal front cannot be overemphasised.

Please Note: This article was first published in The Freepress Journal on June 02, 2014. Syndicated.

This column, Common Voice is authored by Savak Sohrab Tarapore. Mr. Tarapore, is an economist and he runs his own Multi-Language Syndicated Column. Mr. Tarapore's other column, which appears in The Hindu Business Line, is titled Maverick View.


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