Economic Survey 2016: The Indian economy has moved from socialism with restricted entry to ‘marketism’ without exit ... the lack of exit creates fiscal, economic (or opportunity) and political costs, said CEA Arvind Subramanian.
To address the economy’s critical short-term challenge of public sector banks (PSBs) and some large corporates having highly stressed balance sheets, the Reserve Bank of India (RBI) could redeploy the capital at its disposal for recapitalising the PSBs, according to the Economic Survey 2015-16 presented in Parliament on Friday.
Noting that the RBI is an outlier among the community of central banks with a high shareholder equity-asset ratio of 32%, the survey’s authors recommended that without compromising on its need to keep buffer capital to cope with eventualities like perils to its forex reserves from the rupee’s volatility, the RBI could reallocate a portion of its capital to the shareholder banks.
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Noting that the RBI is next only to Norway’s central bank in holding a high portion of equity (capital, retained earnings and contingencies) with itself — around Rs 8 lakh crore now including unrealised gains — economists with the finance ministry led by chief economic adviser Arvind Subramanian said even if the RBI were to reduce the equity-asset ratio to 16% (the median of a representative sample of central banks), considerable sums could be released to the PSBs, reducing the recapitalisation burden on the exchequer.
The innovative suggestion ahead of Monday’s Union Budget is when the government is struggling to fulfil the promise of providing fresh capital to the tune of Rs 70,000 crore to PSBs between FY16 and FY19. The PSBs were to raise another Rs 1.1 lakh crore from the market, a difficult option given the piling up of bad debt.
The survey predicted a broad range of 7-7.75% for FY17 GDP growth — the same as forecast for the current fiscal — and warned that if the world economy, to which India is now more entwined than ever, stutters further, the country’s growth could take a big hit. “The country’s long-run potential growth is still around 8-10%,” it said. In its advance estimate, the Central Statistics Office had pegged FY16 growth at 7.6%.
Subramanian and his team tweaked their earlier position — outlined in the mid-year analysis released in December — that favoured short-term digression from the Centre’s fiscal road map to allow enhanced public capital investment. They have now advised adherence to the 3.5% (of GDP) fiscal deficit target for FY 2017, despite the over Rs-1 lakh-crore hit from the 7th Pay Commission and one-rank-one-pension policy for the armed forces.
“Improving tax compliance through better tax administration and tapping new sources of revenue could help raise more revenue and keep the fiscal deficit at 3.5% for FY17,” the survey said.
Arguing against postponement of the fiscal target, RBI governor Raghuram Rajan had said that the growth multipliers on government spending at this juncture were likely to be smaller and hence more spending would probably hurt debt dynamics. “Put differently, it is worth asking if there really are very high-return investments that we are foregoing by staying on the consolidation path,” he said.
Subramanian said the pay panel was unlikely to destabilise prices and inflation expectations as the spillover of the sharp spike in public sector wages into private sector wages was muted, due to considerable slack in the public sector labour market. Given his benign inflation outlook and citing underutilised industrial capacities and over-indebtedness of corporates, analysts foresaw space for a 50-basis-point reduction in the repo rate during the course of the next fiscal year, providing a monetary stimulus to growth.
Subramanian voted against the demand for raising the exemption threshold for personal income tax and proposed that property taxation — which by nature is progressive and buoyant — needed to be developed. Stating that nearly 85% of the economy is outside the tax net, the survey writers opined that the percentage of citizens who vote and pay taxes should be raised from 4% now to 23%.
“Countries with a higher share of income taxes in total tax collections tend to have more accountable governments… Reasonable taxation of the better-off, regardless of where they get the income from — industry, services, real estate or agriculture — will help build legitimacy,” even as the subsidies to the poor are being targeted, the survey said.
“Subsidies to the well-off amounting to Rs 1 lakh crore need to be scaled back.”
Advocating easy exits for investors, businesses and talent, the CEA said impeding exits had substantial fiscal, economic and political costs. The all-pervasive problem, he noted, required to be tackled by the new bankruptcy law, rehabilitation of stalled projects and changes to the Prevention of Corruption Act. The direct benefit transfer (DBT) system should be panned out to wider areas with broader use of the JAM (Jan Dhan, Aadhaar, mobile) trinity.
“There is still some way to go before bank-beneficiary linkages are strong enough to pursue DBT without committing exclusion errors,” the survey said.
Assessing the potential externalities to the economy, Subramanian drew attention to two tail risk scenarios — major currency readjustment in Asia which could spread deflation around the world and capital controls taken to curb outflows from emerging market countries.
Stressing the need to reduce the rigidities of labour regulations, the CEA and his team said the Centre and states and the private sector must work together to remove the twin obstacles of regulation-induced taxes on formal workers and spatial mismatch between workers and jobs. “EPF is an example of the subsidy for the rich, because the exempt-exempt-exempt status means little to the workers who are mandated to contribute, as even the richest of them who earn Rs 15,000 a month is below the income tax threshold,” the survey said. It added that numerous regulations encouraged rent-seeking behaviour, potentially leading to higher future growth in the informal sector, as opposed to formal employment.