Shankar Acharya: Some post-Budget reflections

Daunting challenges down the road call for acceleration of reforms


Shankar Acharya
Exactly a month ago, I had offered “Some pre-Budget musings” in this newspaper, in which I had listed five major economic challenges on which the 2011/12 Budget should take serious policy action. These were: stubbornly-high inflation (especially in food items), a widening current account deficit in the balance of payments, the massive job-creation challenge posed by India’s demographic “youth bulge”, the country’s rickety and corrupt public delivery system for goods and services, and long-pending reforms in agriculture. How well has the Budget preformed in meeting these challenges? Let’s take each in turn.
The main contribution that the budget could make in combating inflation was to reduce the fiscal deficit and thus relieve the near-exclusive reliance on monetary policy for inflation management. On the face of it, the budget has done well to restrict the central government deficit to 5.1 per cent of GDP in 2010/11 and target a lower level of 4.6 per cent of GDP in 2011/12. In fact, as many have pointed out, the 5.1 per cent outcome in the present year was largely due to the spectrum bonanza of over Rs 70,000 crore and double digit inflation, which buoyed tax revenues and boosted nominal GDP, the denominator for computing deficit ratios. The real issue is how realistic is the 4.6 per cent deficit target for 2011/12, when the spectrum milch cow will be absent and the budget arithmetic is premised on inflation (as measured by the GDP deflator) of under 5 per cent.
The finance minister has clearly made a serious effort towards fiscal consolidation by budgeting for only a 3 per cent increase in total expenditure, compared with the 18 per cent increase in the current year. But it is easy to be sceptical about some of the ingredients of the planned consolidation. In particular, with sharply rising international prices for oil and food, the allocation for major subsidies could be easily overshot by Rs 50,000 crore, as they were this year. Similarly, the disinvestment target of Rs 40,000 crore looks ambitious in the present market and could just as easily be undershot by Rs 20,000 crore, as could the tax revenue projections if inflation really comes down as low as the budget anticipates. These three items alone could lead to overshooting the deficit target by one per cent of GDP. Put differently, in present circumstances, overshooting by at least 0.5 per cent of GDP (that is, no improvement on the current year’s deficit ratio) seems more likely than the Budget projections. If that happens, the budget’s contribution to inflation management will prove elusive and additional market borrowing in the order of Rs 50,000 crore will put upward pressure on interest rates.
Such overshooting of the targeted fiscal deficit will also not help the current problem of high external deficits, especially the current account deficit in the balance of payments. As it is, this deficit (3.7 per cent of GDP in the first half of 2010/11) is under substantial pressure from high and rising oil prices. High oil prices, a vulnerable global economy, an uncertain fiscal consolidation and the weak policy signals to attract foreign direct investment (FDI) could pose challenges for financing the external deficit. Both fiscal consolidation and the external balance would have been helped if the budget had raised more tax revenues through, for example, the reversal of some of the steep cut in the general Cenvat rate carried out in 2008-09 (many expected a 2 per cent rollback) and some clear FDI signal, such as by allowing multi-brand retail. The latter could have also strengthened the supply chain in agriculture and thus helped to moderate food inflation over time.
Governments in West Asia and North Africa (WANA) are tottering in the face of multiple pressures, including, notably, the “youth bulge” in their demographics at a time when their economic systems are generating too few new jobs. India is also experiencing an youth bulge as about 13 million new job-seekers join the labour force each year, mostly in the poorer states. We do not yet have published data from the 2009/10 NSS large sample survey but the data up to 2004/05 were pointing to growing “casualisation” of India's labour force with organised sector jobs stagnant. On this critical issue the budget speech only says, “For sustained growth of GDP and productive employment for the younger generation, it is imperative that the growth in the manufacturing sector picks up”. The aspiration is to raise the share of manufacturing in GDP from 16 to 25 per cent in ten years, although this share has stagnated around 16 per cent for over two decades. However, the speech announces no policies. It merely promises a “manufacturing policy”. There is no mention of labour law reforms, without which further “casualisation” and higher unemployment are virtually inevitable.
In the area of public delivery system reform, this budget offers real hope. For the highly subsidised commodities of kerosene, LPG and fertiliser the finance minister has promised that “the government will move towards direct transfer of cash subsidy to people living below the poverty line”. A task force chaired by Nandan Nilekani is expected to give its interim report by June and the new “system will be in place by March 2012”. There is no lack of sceptics of cash transfer systems for the poor, despite their proven track record in many developing countries. But the brute fact is that our present system for government delivery of goods, services and subsidies has become increasingly dysfunctional, inefficient and costly. It is time to make a serious effort to find alternative pathways. This budget promises to do just that. And for this announcement the finance minister deserves to be warmly congratulated.
On the related but broader issue of “governance”, the speech is far less convincing. Of the two-and-a-half pages on this topic about three quarters is spent on describing IT and administrative initiatives in taxation. While these are undoubtedly important, they cannot substitute for a much more holistic agenda to tackle corruption and weak accountability in the overall systems of governance, which have rightly exercised citizens and the media, especially in recent months.
As for agriculture, there are the usual 3 or 4 pages to describe a number of government expenditure programmes. But they do not add up to a convincing reform strategy.
Finally, the total allocation for current and capital expenditure by defense services adds up to less than 1.9 per cent of GDP, which is one of the lowest shares in recent times. In the context of rising threat perceptions on our western and northern borders one wonders if this is enough.
The author is Honourary Professor at ICRIER and former Chief Economic Adviser to the Government of India. Views expressed here are personal.
Disclaimer: These are personal views of the writer. They do not necessarily reflect the opinion of or the Business Standard newspaper

First Published: Mar 10 2011 | 12:54 PM IST

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