The fiscal crisis of the state

Updated: Feb 21 2002, 05:30am hrs
Ahead of the union budget for 2002-2003, a more cautious finance minister Yashwant Sinha has made the slam me but dont rank me statement. The reference obviously was to the much vaunted nine out of ten ranking that his last budget received from India Inc only to have it blown way by recessionary winds. A visionary budget turned into a blurred nightmare. Mr Sinha therefore is open only to criticism or praise but not ranking.

India Inc, of course, is in a mood to oblige and is bound to consider whatever the finance minister announces on February 28 as truly historic or pathbreaking. But more seriously, if ranking the budget is no more welcome, how then is one to assess Mr Sinhas forthcoming budget An obvious yardstick is what he does to get the nations finances in order, especially in reducing the ballooning revenue or fiscal deficits.

In this regard, what is going on in Kerala is not necessarily specific to that picturesque and verdant southern state. It has national relevance as well. The cash-strapped government headed by chief minister A K Antony is engaged in a battle royale against six lakh government employees whose indefinite strike has entered the third straight week. The issue at stake is not the legitimacy of strike-struggles of militant unions in Kerala.

Simply put, Mr Antonys cross is a bankrupt fisc. The empty coffers forced the treasury to shut down for a day. There is no money left to pay wages and salaries of the administration without borrowings. The CM has no option but to bite the bullet and cut expenditures on salaries in other words, to attempt downsizing the holy cow of state government. Doesnt all of this have resonances at the national level as well

Admittedly, there are differences between Kerala and India. In the former, unionism has left its destructive imprint on the states economic development. Industrial activity couldnt take root as the traditional coir and cashew industries languished. The state is also a remittances-based economy, dependent on transfers from migrants who earn their livelihoods in far-off lands. Not surprisingly, government service is the major source of domestic employment. Economism amongst trade unions has ensured a state of affairs where the wage bill of employees pre-empts 70 per cent of revenues.

Clearly, such a denouement is not in prospect at the centre. But Mr Sinha also faces limited options like Mr Antony: If interest payments, defence and subsidies pre-empt 75 per cent of non-plan revenue expenditures, where then are the resources for kickstarting the economy on to a faster growth path The inflexible character of such revenue expenditures is usually considered a given in union budget discussions.

Not surprisingly, the centre too has been resorting to large-scale borrowings to meet even housekeeping expenditures. That softer option too has run its course, as interest payments on its debt alone account for less than half of non-plan revenue expenditures in the union budget. If the rate of interest on debt is higher than the nominal economic growth, debt servicing will slowly eat up the entire GDP!

Like crying wolf, the warnings that the trend of public finances is heading towards an internal debt trap have been sounded every now and then. The latest is the US-based ratings agency Moodys. Of course, this agency has been accused of having mood shifts of its own, but the debt-GDP ratio of the centre is 53 per cent of GDP. Importantly, this ratio is rigid downwards but flexible upwards as nominal GDP growth now is similar to the interest rate on government borrowings.

The explosive nature of the famous economist Evsey Domars equation will be felt when nominal GDP growth declines below the rate of interest. Of course, the counter to this dismal scenario is that its not in prospect: How can the government go broke But to avert such an outcome, Mr Sinha has to take hard decisions to reduce the revenue deficit. This implies taking unpopular decisions to lower subsidies and defence spending.

Sooner or later, it will also imply taking on the unions to downsize the government. This is inescapable. Mr Antonys war thus is bound to be that of the union finance ministers few years down the road. What the former is doing has a vital bearing on Keralas future, notably to shift the balance of class forces. The issues involved clearly are momentous, whose implications extend to the rest of India as well.

To be sure, Mr Sinha is trying to test the waters witness the timid efforts to downsize through a tepid voluntary retirement scheme. But this wont do. The centres revenue deficit was budgeted at 3.2 per cent of GDP, but will most certainly be much higher in the revised estimates for 2001-2002 because of lower GDP growth and revenue collections. Mr Sinhas budget will indeed be judged by how he reins in the revenue deficit.

Unless the finance minister does so either through higher revenue mobilisation or spending cuts he is unlikely to keep a lid on borrowings or the fiscal deficit. So long as the balance on current revenues remains negative, Mr Sinhas budget will only shine with borrowed feathers. Mr Antonys back is to the wall. The relevant question is, for how long can this outcome be averted at the centre

The lessons from Keralas raging war thus are bound to be closely watched elsewhere. The states CM is in an unusual situation as he faces intense opposition from within the ruling party itself. While it is premature to speculate on the balance of forces, what is heartening indeed is that Mr Antony is getting unprecedented public support for his firm stand. Mr Sinha too will get nationwide support - and not necessarily a ranking if he too shows an equally firm budgetary resolve to set the fisc in order.