Column : The misnomer of growth-oriented Budgets

Feb 27 2013, 07:43 IST
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SummaryOnly 20% of Budget size can potentially contribute to growth. The actual initiative has to come from the private sector.

One of the loosely-used phrases at this time is ‘growth-oriented Budget’. When we talk of a growth-oriented Budget, we refer to measures that help to increase GDP growth. Fiscal moves are on the tax and expenditure sides. Going by the Laffer curve hypothesis, tax incentives make individuals work more, which increases GDP and also tax income. This is theoretically sound, but does not work well as labour markets do not let you work as you please. Lower corporate taxes and excise duties are meant to increase industrial production and hence investment. FY13 Budget talks of foregone tax revenue being around R5.25 lakh crore in FY12 on all counts—income, corporate, excise and customs. Clearly, this has not brought about growth. This means tax incentives, by themselves, cannot guarantee growth.

We then look at the expenditure side and make myriad suggestions on where the government should be spending money to inspire growth. To understand whether this can work, we need to look at the less-looked-at document—the Economic and Functional Classification of the Budget—which gives a break-up of expenses of R14.96 lakh crore under various economic heads.

The Budget allocations can be divided into three categories—productive, non-productive and Keynesian. The productive ones are those that are in the area of capital formation and include all expenses that are earmarked for such activity. This includes direct expense for capital formation as well as allocations to other bodies for this purpose. The non-productive category includes mainly transfer payments that tinker with the ‘economic cost’ of a product which is being subsidised by the government. A fuel subsidy only pays someone for the same product and does not create demand. There are also transfer payments to states that are not being used for creating capital but used for consumption. The third is Keynesian expenditure, where the money spent is current in nature that is spent on either buying goods or paying salaries. It is Keynesian because the money will be spent on consumption and hence could create backward linkages. Purchase of commodities works at the secondary level, while salaries work at tertiary stages. In a strict sense, these are still not in the productive area where growth can be generated.

Given this set-up, it can be observed that typically 20% of total outlay would of for capital formation in the area of infrastructure. Here, too, the classification is largely under ‘building and construction’ where it

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