Finance minister P Chidambaram will have no choice but to be a skilled tightrope walker, if he listens to the advice of Abheek Barua, chief economist HDFC Bank.
The emphasis in the budget, Barua says, must be on growth coupled with fiscal consolidation. This, he admits, is not the easiest thing to do.
Government spending is often crucial to reviving a slowing economy but straitened government finances may make this difficult. This contradiction can be resolved, says Barua, if the fiscal consolidation plan concentrates on cutting unproductive expenditure like subsidies, ensuring that government investments that pull in private investments are back on track and that large government borrowings do not push out private sector borrowings and increase the cost of money.
Barua is uncomfortable with the fact that the entire discourse on the poor state of public finances is focusing on the fiscal deficit (the gap between the government’s total earnings and total expenditure) and not the revenue deficit (the gap between the government’s recurring income and its running expenses).
In order to keep the fiscal deficit number down, Barua points out, capital expenditure (which creates physical assets and has a cascading beneficial effect on the economy), is being pruned. “If that is going to be the strategy going forward, then we are getting into slightly dangerous territory. That means we are compromising the supply side, which would mean lingering inflationary pressures and critical infrastructure not being created. “The government has to be very careful in making sure it is not behaving as a fiscal fundamentalist. . . and pruning whatever expenditure it can lay its hands on.”
Containing revenue expenditure will involve reducing subsidies and spending on welfare schemes and Barua concedes that political compulsions in a pre-election year may make this difficult. But some steps will have to be taken on this front, since the burden of fiscal correction will have to fall on expenditure reduction. Given low growth, there is a limit to earning more revenues from taxes.
Reviving 'animal spirits’ is critical to growth and Barua thinks this can be done by focussing on infrastructure. Apart from refraining from cutting capital expenditure, he wants the government to address procedural and other bottlenecks that hamper large projects from getting off the ground. These aren’t strictly matters that the budget deals with, but he’s hoping for some signals on this front. Doing this, he says, is more useful than giving incentives to specific sectors. Tax exemptions (the form incentives usually take) don’t help beyond a point, he notes.
That’s why Barua doesn’t have a problem if the government removes tax exemptions in an attempt to streamline the tax system and earn more revenues. “It’s not such a bad call to make.” The tax-GDP ratio (which is a measure of efficiency in tax collection), he notes, has gone down sharply. So even if growth doesn’t pick up significantly, there is still elbow room to push up tax collections through better tax administration.
Fears that the much talked about proposal to tax the super-rich driving away capital and entrepreneurs are, Barua says, “grossly exaggerated”. He thinks there is some merit in having a different tax bracket for incomes above a certain level, but that the finance minister should perhaps not move ahead on the proposal now, given the adverse sentiment it might attract in the short term.
The high current account deficit worries Barua as well. Checking gold imports through tariff and non tariff measures is necessary, he says. Whether this will in fact lead to smuggling will have to be seen. But that can only be a short term measure. For a more sustained and comprehensive correction in the current account deficit, he would like to see the fiscal deficit being kept under check and the country’s trade policy being reviewed, especially the trade imbalances with countries like China.
The role of exports in containing the current account deficit is a bit limited, given the inherent lack of competitiveness of Indian exporters, Barua notes. That brings the discussion back to making India a better operating environment. “Unless we improve infrastructure and business environment, it will be unfair to expect the exporters to get us out of this.”
Land acquisition and environmental clearances are the big policy issues that Barua would like to see the government addressing. The comprehensive goods and service tax is the major reform measure he would like to see some announcement on.
He’s not very excited about the budget setting big targets for disinvestment in public sector enterprises. “Targets are problematic.” What he would like to see is a model where the government is clear about shedding its holdings in public sector enterprises. But this model should also enable the government “to be nimble, respond to market conditions, exploit temporary bull runs in the market to offload stakes, instead of a very rigid target and equally rigid process of divesting equity.”
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