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Ashok K Lahiri: FRBM without its teeth

In the first of a two-part series, the author wonders whatever has happened to the FRBM Act

Ashok K Lahiri 

Ashok K Lahiri

The Fiscal Responsibility and Budget Management (FRBM) Bill, 2000, took three years to get passed by Parliament and become the FRBM Act, 2003. In the process, some claim that its teeth were removed. The explicit annual targets, as a proportion of GDP, for reduction of fiscal (0.3 per cent) and revenue deficits (0.5 per cent) were eliminated from the legislation. The Act simply stated that the Centre will take appropriate measures to eliminate revenue deficit by March 31, 2008. Annual numerical targets were left to the government to formulate in the FRBM Rules under the delegated authority of the FRBM Act.

Without an autonomous Fiscal Management Review Committee and beyond the jurisdiction of civil courts, the FRBM Act, many claim, became like the Constitution's Directive Principles of State Policy.

The NDA government that got the FRBM Act passed did not last to promulgate the Rules. Under the first UPA government, the FRBM Rules came into force from July 5, 2004. While notifying the Rules on July 2, 2004, an amendment to the Act was passed for a one-year postponement of the target year for eliminating the revenue deficit to 2008-09. Before the ink on the FRBM Act was dry, the Finance Minister, in his Budget Speech for 2005-06, pressed the pause button vis-à-vis the FRBM Act because of the drastically changed pattern of devolution and funding recommended by the 12th Finance Commission. In March 2005, former Chief Economic Advisor Shankar Acharya published an article in this newspaper entitled "Farewell fiscal responsibility?"

What followed indeed looks like a farewell to fiscal responsibility. The FRBM path of fiscal correction was halted from 2008-09 because of unanticipated changes in the prices of fuel and fertiliser. Outlays on major subsidies shot up from Rs 67,498 crore in 2007-08 to Rs 1,23,581 crore in 2008-09. Off-budget bonds issued to the petroleum and fertiliser companies amounted to a further Rs 95,942 crore or 1.8 per cent of GDP in 2008-09. On August 28, 2008, the central government asked the 13th Finance Commission to lay down a revised road map for fiscal consolidation.

With elections for the 15th Lok Sabha scheduled for April-May, 2009, an Interim Budget for 2009-10 followed on February 16, 2009. A new Finance Minister, in office for only three weeks, called the economic circumstances extraordinary and announced extraordinary measures. The FRBM targets were relaxed to boost demand and counter the impact of the global financial meltdown.

Post-election, the Budget for 2009-10 presented on July 6, 2009, included a fiscal stimulus package. Between 2008-09 and 2009-10, as a proportion of GDP, the fiscal deficit shot up from 6.0 per cent to 6.5 per cent, with an even bigger increase in revenue deficit from 4.5 per cent to 5.2 per cent. Of course, the medium-term commitment to fiscal consolidation and a return to the FRBM targets at the earliest were reiterated.

In the context of FRBM, the 13th Finance Commission, in its report submitted on December 29, 2009, argued against disturbing the existing classification of revenue and capital expenditure in an ad hoc manner. Yet, in what was described as the "Godzilla of all fudges played out in this country in the guise of fiscal consolidation", Budget 2011-12 quietly introduced the concept of "effective revenue deficit." It is the revenue deficit adjusted for grants to states for asset creation. The Budget of 2012-13 went farther. Through the Finance Act, known for its missile-like efficiency for getting passed without elaborate discussion or amendments, it changed the FRBM Act itself. The Centre's commitment to eliminate its revenue deficit was dumped for the elimination of the tenuous concept of "effective revenue deficit". The amended FRBM Rules of May 7, 2013, stretched the time for its elimination by six years to March 31, 2015, and for bringing the fiscal deficit down to three per cent of GDP by eight years to March 31, 2017.

In 2014-15, as a proportion of GDP, the revised estimate of revenue deficit of the central government was far above zero at 2.9 per cent, and fiscal deficit 1.1 percentage points above the three per cent mark to be achieved by March 2017. So, has the FRBM Act been an exercise in futility?

Undoubtedly, even the toothless FRBM Act has been beneficial. Fiscal consolidation is like quitting smoking. Not easy. Politicians and policy makers want fiscal consolidation; but only in the medium term, not the current year. Most smokers recognise smoking as injurious to health, and want to quit, but, not now and here. There are short-term costs. Taxes are painful, and cutting expenditure hurts some constituency. Quitting smoking leads to withdrawal symptoms, frayed tempers and mood swings. Finally, not consolidating this year, like continuing smoking for another day, does not have immediate disastrous consequences.

In the move from discretion to rules in the fiscal arena, like in quitting smoking, there are many failed attempts before success. The US experience with debt ceilings from the First World War days and Gramm Rudman Hollings Act (1985), and EU experience with the Stability and Growth Pact since 1997 are cases in point.

Legislature consisting of the elected representatives of the people will, and should, have the power to formulate laws and change them at their discretion. The durability and success of fiscal rules ultimately depend on popular support for such rules. Pursuit of a virtuous rule, even when diluted, leads to mobilisation of popular support. In the 1950s and 1960s, there were only lonely voices of economists such as B R Shenoy against fiscal profligacy. With the FRBM Act, there is now a larger constituency against fiscal excesses.

The writer is an economist. The next part will appear tomorrow

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First Published: Wed, September 30 2015. 21:50 IST