The strategic vision underlying the 2014 Budget speech - of an India that needs to grow rapidly and create opportunities for all - deserves the highest of grades. The substance, or the policy actions, was, however, not equal to realising that vision. In substance, this was a Budget prepared by incumbent bureaucrats, not incoming politicians. This was a Budget that represented stale continuity - surprisingly endorsed by much of the post-Budget commentary - when the need of the hour was demonstrable change. Consider how (focusing here on macro-economic rather than real sector policies). 1. Budgetary transparency and credibility: This Budget offered an opportunity for the new government to come clean on Budgetary accounting, even if it meant accepting the higher deficit number. It is widely accepted that there was a smoke-and-mirrors aspect to the numbers in the interim Budget crafted by the previous government which artificially reduced or deferred expenditures by up to 0.3 per cent of GDP. The Budget should also have moved to purging asset sales/privatisation receipts from the headline deficit number. Similarly, some of the Budget numbers are implausible. Tax revenues are projected to grow by nearly 20 per cent. That defies credulity given that nominal GDP growth is unlikely to exceed 13-14 percent (nine per cent for inflation plus five per cent for real GDP growth). It also defies credulity because we know that already in the first quarter of this fiscal year, 45 per cent of the annual deficit number has been reached. Strategically, it always pays to under-promise and over-perform than the other way around, especially because this government has the luxury of a long time horizon for action. More importantly, though, transparency and credible numbers evoke confidence; unreliable numbers will eventually elicit cynicism. Good governance was supposed to distinguish this government from its predecessor, and the Budget afforded an opportunity to reinforce this distinction. Imagine if the government's first Budget had established new standards of transparency and credibility. The government would then have drawn gushing kudos, in the spirit of what George Orwell said of Mahatma Gandhi: "How clean a smell he has managed to leave behind." 2. Fiscal adjustment: The Budget is about more than headline deficit numbers. But the aggregate stance of fiscal policy is not irrelevant, it is hugely important. Correctly measured, this Budget will either entail no fiscal adjustment, or even some fiscal relaxation. Now, under normal circumstances, such a relaxation would not be a source of concern and might even be warranted.
But these are not normal macroeconomic times for India. These are unusually fragile times. Inflation is running at 8.5 per cent, amongst the highest in the emerging markets; fiscal deficit is at seven per cent of GDP, the current account deficit is at two per cent of GDP and kept in check only by a growth collapse and controls on the imports of gold; a terrible monsoon is about to extract its toll in the form of lower growth, higher inflation and increased expenditures; oil prices could soar; and above all, asset prices, especially the stock market, have bubbled to such levels that a small trigger could lead to capital outflows and a sharp, disruptive correction in asset prices. This Budget needed to cater for these contingencies, which meant creating a cushion to withstand possible shocks. More broadly, a basic misunderstanding is driving complacency in fiscal policy. The Budget and its analysts alike have focused on the medium-term path of fiscal adjustment. This path is important but not critical. On fiscal policy, India has a flow problem not a stock problem. India's government debt, measured by the debt-to-GDP ratio, is not critically high and has in fact been on a strong downward trajectory because of high inflation, which has boosted nominal GDP. Inflation has been bad for consumers and savers but great for debtors, and a bonanza for the biggest debtor of all, namely the government. On the other hand, the flow problem stems from high fiscal deficits keeping inflation high and the current account under pressure. This distinction leads to different conclusions for fiscal adjustment. The stock perspective argues for modest and steady improvements in the deficit. But a flow perspective argues for greater and faster adjustment because of the fragile state of the macro-economy described above. In other words, the Budget should at least have made a start in reducing the aggregate fiscal deficit by, say, 0.3-0.5 percentage points. Instead, the fiscal deficit might deteriorate further, and even though by a small amount, the fiscal stance will move in the opposite direction relative to the demands of India's fragile situation. 3. Credibility of policy: The 2014 Budget did announce targets for this year and for the medium term. But targets are only credible to the extent that they are backed up by actions, or failing that, by specifying details on actions and on timelines. On two key issues - subsidies and the GST - these actions and timelines were missing. In fairness to the new government, it has had limited time to prepare politically, administratively, and personnel-wise, for implementing actions that would restore confidence and generate growth. That may yet happen. For now, observers and critics should be forthright in their assessment of the 2014 Budget. But they should also give this government the benefit of the doubt and time to translate its laudable vision into recognisable reality.
The writer is senior fellow, Peterson Institute for International Economics and Centre for Global Development. This is a reprint of a blog that appeared on the website of the PIIE