Qualitative improvement

Higher capex will improve growth prospects

Union Finance Minister Nirmala Sitharaman pleasantly surprised Budget analysts by projecting a lower than expected fiscal deficit in the Interim Budget last week. This is particularly commendable because of the expected low nominal gross domestic product (GDP) growth this financial year. The government expects to contain the fiscal deficit at 5.8 per cent of GDP in 2023-24, as against the Budget Estimate (BE) of 5.9 per cent. Further, sticking to the medium-term fiscal glide path — announced in the Budget speech for 2021-22 — of lowering the fiscal deficit to below 4.5 per cent of GDP, Ms Sitharaman projected a decline in the fiscal deficit to 5.1 per cent of GDP in 2024-25. There were apprehensions that the government could announce populist measures in the runup to the upcoming Lok Sabha elections. It has done well to stay clear of any such temptations. Further, projections for next financial year look credible. The assumption of nominal growth at 10.5 per cent in 2024-25, though higher than in the current financial year, is not overly optimistic.

The most significant feature of fiscal management, however, is that the deficit is being reduced without compromising on the quality of government expenditure. In fact, the allocation for capital expenditure is increasing. As an analysis in this newspaper last week showed, capital expenditure as a proportion of the total expenditure of the Union government is projected to hit a 30-year high in 2024-25. The government increased capital expenditure significantly after the pandemic. Since the private sector was reluctant to spend because of high levels of uncertainty, the government did well to support recovery after the pandemic. The Union government’s capital expenditure in absolute terms nearly tripled between 2019-20 and 2023-24. There were some concerns that the system may be unable to absorb large amounts of capital expenditure because of capacity constraints. But the government seems to have overcome such constraints and the Revised Estimate (RE) for this year is only marginally lower than the BE.

For next financial year, while total government expenditure is projected to grow a little over 6 per cent, capital expenditure is expected to increase about 17 per cent to record Rs 11.1 trillion. This suggests the government is focusing on containing revenue expenditure to create space for capital expenditure. It is reasonable to assume that the new government will retain the deficit and capital expenditure targets in the full Budget, to be presented after the Lok Sabha elections. Given the broad infrastructure deficit, the need for higher capital expenditure cannot be overstated in a developing economy like India. It has also been observed that the multiplier effect of capital expenditure is much higher than revenue expenditure.
 

In the current context, the idea is that as the private sector gains confidence with improvements in economic prospects and starts investing in capacity creation, the government would gradually withdraw from this space and consolidate its finances. Both corporate and bank balance sheets have improved significantly over the past few years. It thus remains to be seen if the initial signs of revival in corporate investment can be sustained over a longer period. In this context, lower than expected borrowing by the central government will also help because it will reduce the cost of money in the system. Besides, well-managed government finances strengthen macroeconomic stability and increase investor confidence.