Fiscal Framework: Review medium-term fiscal stance

Raising personal income-tax threshold not advisable as few pay taxes

Fiscal hawks might not like it but the Economic Survey for 2015-16 has made a case for reviewing the medium-term fiscal framework in the upcoming Budget. It, however, has argued that there were “good” arguments for both relaxing the fiscal deficit target and keeping it.

The framework mandates the government to cut its fiscal deficit to 3.5 per cent of the country’s gross domestic product (GDP) next financial year and 3 per cent by 2017-18 from the targeted 3.9 per cent in the current financial year. The survey said meeting the target for the current financial year was achievable, but it would be a challenge to realise it in 2016-17.
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It was against raising the threshold for personal income tax. The threshold now is Rs 2.5 lakh a year. “In any event, the time is ripe for a review of the medium-term fiscal framework,” said the survey three days ahead of the Budget.

Budget 2015-16 had deferred the fiscal consolidation road map by a year.

On a larger context of fiscal capacity, the Survey argued India under-spends and under-taxes when compared with equal economies. Pointing out that only about four per cent of adult individuals pay income tax, against a desirable 23 per cent, the Survey argued for refraining from raising exemption thresholds for personal income tax. “One low-hanging fruit would be to refrain from raising exemption thresholds for the personal income tax, allowing natural growth in income to increase the number of taxpayers.”

The survey also asked the government to widen the taxpayers’ base and reform property tax. On the debate on fiscal consolidation versus the need for boosting the economy, Finance Minister Arun Jaitley had said all kinds of opinions have been received.

Economic growth for the next financial year was pegged at only 7-7.75 per cent by the Survey, which is a vast range depicting the scenarios of lower and higher GDP expansion, against the expected 7.6 per cent for the current financial year.

If viewed from the debt-to-GDP ratio, the Survey said there were strong arguments for sticking to a path of aggressive fiscal consolidation. “Such a low deficit would not only curtail debt accumulation, but would also offer some wider advantages,” it said.

First, this would mean that the government would be delivering on a commitment, thereby reinforcing its credibility. Secondly, said the Survey, it was far from clear why such a commitment would be abandoned when the economy was growing at more than 7 per cent. Such “rapid” growth would seem to provide ample revenues for the Budget, while enabling the economy to withstand a reduction in government demand. “So, credibility and optimality seem to argue for adhering to the 3.5 per cent of GDP target,” it said.

Many economists and experts, including Reserve Bank of India Governor Raghuram Rajan, have cautioned the government against straying from the path of macroeconomic stability. The Survey said two developments had complicated the fiscal task in 2016-17 — the Seventh Pay Commission’s recommendations (which would add about half a percentage point of GDP to the Centre’s expenses) and the need to increase public investment to address a pressing backlog of infrastructure needs. With these, the Survey said the fiscal deficit could swell substantially. “As a result, achieving the original could provide difficult unless there are tax increases or cuts in expenditures,” it said.

It also argued that there was some scope of increased receipts from disinvestment and spectrum auctions. Any relaxation on fiscal consolidation would have to assess the impact on interest rate and debt of the Centre, it added.