Budget 2017 will have to go a further mile to buttress the economy compared with the previous two versions. Despite deficient rains in fiscals 2015 and 2016, growth was gradually inching up. For this fiscal, however, the Central Statistical Organisation pared its forecast on gross domestic product (GDP) growth by 50 basis points to 7.1% compared with last fiscal.
While 2016 saw a normal and well-distributed monsoon, a ‘drought’ was brought about by the adverse effects of demonetisation.
To the government’s credit, its fiscal policy has been quite prudent so far, sticking to the path of consolidation rather than attempting a ‘steroidal’ boost to the economy. Not only has the coordination between fiscal and monetary policy significantly improved, the policy focus has been on pushing ahead reforms. However, this has meant there is no immediate upside to growth, the potential growth and trend rate have been lifted. The key question therefore is, will this stance continue in the forthcoming Budget, which has an additional task of supporting consumption demand?
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The ability of the Budget to kickstart the economy depends on the fiscal wiggle room available. The debt-GDP ratio for the Centre, as well as for the Centre and states together, has been stubbornly sticky in the past few years, despite a conservative fiscal stance. India has the highest debt ratio among similarly rated sovereigns. Hence, reining it in remains a key policy objective. The second factor that constrains the ability of the government to spend aggressively is the commitment to reduce fiscal deficit to 3% of GDP in fiscal 2018, from 3.5% in the current fiscal.
Some fiscal space for fiscal 2018 could be created through relaxation of this pre-committed target (if the Fiscal Responsibility and Budget Management Committee recommends so).
The revival of the investment cycle remains the other key challenge. The investment-GDP ratio has been consistently falling in the past five years. Even without demonetisation, private investment was on the decline. The government has been trying to increase public investment and crowd-in private investment. In addition to budgetary allocation, bolstering the execution capability of ministries would also be critical to ensure the government’s investment plans fructify.
So far, efforts to push public investment have been more than offset by weak private corporate investment, leading to overall investment decline in fiscal 2017. Within public investments, the government is likely to continue its focus on building roads and incentivising low-cost housing, given high labour intensity of the construction sector. This will generate employment, create assets, and drive private consumption demand.
In all, Budget 2017 does not have the muscle to turn around the economy in a sustainable manner. Unless the private sector returns with bigger investment plans, sustainable recovery will remain elusive.
Thus, the Budget will have to be fairly creative in its use of limited fiscal space to spur overall growth. A balance between demand incentives and supply side reforms to ring in higher productivity is its best bet.
The author is chief economist, CRISIL Ltd. Views are personal