Chidambaram's budget trick: Why you shouldn't be fooled

What would scare you more: if I said you are spending Rs 148 for every Rs 100 you earn, or that your current excess spending is just 4.8 percent of the annual earnings of your entire community? Unless you are one of those diehard believers in the joint-family-will-bail-me-out idea, I suspect you would be worried about the first number more than the second. That is, the rate at which your current spending outpaces your earnings. This is the real reason why Finance Minister P Chidambaram’s “red line” on the fiscal deficit (at 4.8 percent) is really a distraction. It does not tell us that the government is living far beyond its means; it only tells us that what it is overspending now is a small portion of the national income. The government is only one economic player in the country, and so comparing its spending to the overall GDP is hardly relevant. It’s like comparing your overspending with the income of your joint family. [caption id=“attachment_1393539” align=“alignleft” width=“380”] It’s all about the way you choose to frame your spending: Reuters[/caption] Politicians love this fiscal deficit comparison because it makes their big wastage of national resources look small; economists do the same because they like to make ratios of everything for feeding into their econometric models. Chidambaram’s red line is thus an effort to confuse you into believing that he is a stickler for prudence when it suggests no such thing. In fact, if at all any number ought to be given greater sanctity in the budget he will present later today, it is the revenue deficit – which measures the amount the government is spending compared to the tax and non-tax revenue it earns. In the budget he presented last February, Chidambaram had pencilled in a revenue deficit of Rs 3,79,838 crore – or 3.3 percent of GDP. The difference between this number and the fiscal deficit number (Rs 5,42,499 crore) matters less, since the extra spending over the revenue deficit would presumably be going into investment – which is like like sowing the seeds of future revenues. The reason why Chidambaram is making a song-and-dance about the fiscal deficit and his red line is simple: it is intended to take our attention away from the revenue deficit, which is the real number to monitor. If this number is lower than the 3.3 percent that he talked about last year, it is at least an improvement; if it is more, it is bad. A higher revenue deficit indicates real bad kinds of spending – as in subsidies and administrative costs. It is worth recalling that in the grow-grow years of UPA-1, this was the number Chidambaram was unable to manage. In his last budget for UPA-1, Chidambaram, in fact, said that he was relaxing the targets set for revenue deficit in the Fiscal Responsibility and Budget Management Act (FRBM Act). After liberally throwing freebies at the electorate – including the Rs 72,000 crore farm loan waiver and high outlays on make-work schemes – Chidambaram had this to say in his 2008-09 budget: “In the case of revenue deficit, I will meet the target of annual reduction of 0.5 percent. However, because of the conscious shift in expenditure in favour of health, education and the social sector, we may need one more year to eliminate the revenue deficit. In my view, this is an entirely acceptable deferment." In 2008, Chidambaram was talking about eliminating the revenue deficit in “one more year”. The UPA was re-elected, but neither Chidambaram nor his successor, Pranab Mukherjee, made good on this specific promise about eliminating the revenue deficit next year. At 3.3 percent, the revenue deficit is still too high four years later - nowhere near zero. The deficit, which was to end in 2009-10, is simply beyond the reach of the spendthrift UPA which has used taxpayers’ money repeatedly to buy votes. It is because he can’t meet this number that Chidambaram is trying to tom-tom the red line on the fiscal deficit.